UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED
MANAGEMENT INVESTMENT COMPANIES
Investment Company Act File Number: 811-2340
Montgomery Street Income Securities, Inc.
(Exact name of registrant as specified in charter)
225 W. Wacker Drive, Suite 1200
Chicago, IL 60606
(Address of principal executive offices)
Mark D. Nerud, President
225 W. Wacker Drive, Suite 1200
Chicago, IL 60606
(Name and address of agent for service)
Registrants telephone number, including area code: (312) 338-5801
Date of fiscal year end: December 31
Date of reporting period: January 1, 2014 June 30, 2014
Form N-CSR is to be used by management investment companies to file reports with the Commission not later than 10 days after the transmission to stockholders of any report that is required to be transmitted to stockholders under Rule 30e-1 under the Investment Company Act of 1940 (17 CFR 270.30e-1). The Commission may use the information provided on Form N-CSR in its regulatory, disclosure review, inspection, and policymaking roles.
A registrant is required to disclose the information specified by Form N-CSR, and the Commission will make this information public. A registrant is not required to respond to the collection of information contained in Form N-CSR unless the Form displays a currently valid Office of Management and Budget (OMB) control number. Please direct comments concerning the accuracy of the information collection burden estimate and any suggestions for reducing the burden to Secretary, Securities and Exchange Commission, 450 Fifth Street, NW, Washington, DC 20549-0609. The OMB has reviewed this collection of information under the clearance requirements of 44 U.S.C. §3507.
Item 1. Report to Stockholders.
Montgomery Street
Income Securities, Inc. (MTS)
Semiannual Report to Stockholders
June 30, 2014 (Unaudited)
Montgomery Street Income Securities, Inc. (Unaudited)
Portfolio Manager Review
Portfolio Return
Montgomery Street Income Street Securities, Inc. (the Fund) had a total return based on net asset value (NAV) of 4.63% for the six-month period ended June 30, 2014. The total return of the Fund, based on the market price of its New York Stock Exchange traded shares, was 8.32% for the same period.1 The Funds NAV total return outperformed the Barclays U.S. Aggregate Bond Index, the Funds benchmark, which posted a total return of 3.93% for the six-month period.2
Market Review
Both uncertainty and volatility increased at the start of 2014 amid geopolitical tensions and weak economic data. An uncharacteristically cold winter took a toll on the U.S. economy, resulting in a weak first quarter U.S. gross domestic product rate of -2.9%. On the global front, rising geopolitical tensions between Russia and Ukraine at the outset of the year led to volatile swings in financial markets, particularly in equities.
Central banks across the globe continued and in certain instances increased their accommodative stance during the first half of the year. Despite the weak first quarter, the U.S. Federal Reserve (Fed) continued tapering its asset purchases and remained on track to conclude its purchases by year-end. The Fed also took considerable steps to strengthen its forward guidance on the policy rate. In Fed Chair Janet Yellens first statement in March, the Fed dropped references to a 6.5% unemployment target and placed greater emphasis on inflation and other measures of labor market conditions as more appropriate barometers for determining the timing of the first interest rate hike. In Europe, the European Central Bank announced new easing measures, including a historic negative rate on deposits, policy rate cut, and targeted long-term refinancing operations to spur business lending.
Financial markets, despite the volatility early on, ended the first half of the year in positive territory. Improving global economic data in the second quarter, supportive central banks, and easing of global political risks led to sizable equity market gains overall, with the S&P 500 Index rising 6.05% and hitting an all-time high. Global fixed income markets also posted strong returns, with the Barclays Aggregate Bond index returning 3.93%, benefitting from rate declines across most maturities (e.g., U.S. 10-year Treasury rates declined 50 basis points), and investors began to embrace the view that policy rates will remain lower than historical norms suggest.
U.S. Treasury Bond Yield Curve (Unaudited)
Source: Bloomberg
Performance is historical and does not guarantee future results.
1 | Total return based on NAV reflects changes in the Funds net asset value during the period. Total return based on market value reflects changes in market value. Each figure assumes that dividend and capital gain distributions, if any, were reinvested. These figures will differ depending upon the level of any discount from or premium to NAV at which the Funds shares traded during the period. Past results are not necessarily indicative of the future performance of the Fund. Investment return and principal value will fluctuate. |
2 | The Barclays U.S. Aggregate Bond Index is a broad-based benchmark that measures the investment grade, U.S. dollar-denominated, fixed-rate taxable bond market, including Treasuries, government-related and corporate securities, mortgage backed securities (agency fixed-rate and hybrid adjustable rate mortgage pass-throughs), asset backed securities and commercial mortgage backed securities. The Index does not include exposure to high yield securities, non-dollar securities or cash. Index returns assume reinvestment of dividends and interest, but, unlike Fund returns, do not reflect fees or expenses. It is not possible to invest directly in an index. |
1
Montgomery Street Income Securities, Inc. (Unaudited)
Portfolio Manager Review
Fund Performance
Given its primary focus on income generation, the Fund remained overweight investment grade credit throughout the period, which contributed to performance as spreads continued to tighten. The yield to maturity for the Fund as of June 30 was 2.96%, versus 2.23% for the benchmark. As seen in the table below, the Fund was focused on the investment grade sector and had a 43 percent allocation to BBB rated securities. Tactical positioning within the high yield sector also added to returns, as high yield securities continued to post strong gains. From an interest rate positioning standpoint, the Fund was focused on short and intermediate maturities and was underweight the long end of the yield curve, which detracted from returns given the rally in longer-dated maturities. An out-of-benchmark allocation to non-Agency mortgage backed securities (MBS), included under Other in the Sector Distribution Table, which were supported by limited supply and an ongoing housing recovery, continued to add to performance. An underweight to Agency MBS, however, more than offset this positive impact, as they outperformed like-duration Treasuries. An overweight to emerging markets (EM), a detractor in 2013, has contributed to returns year-to-date as spreads have tightened. In Latin America, exposure to local interest rates in Mexico and Brazil also added to returns, as yields rallied in these regions.
Quality Distribution (Unaudited)
As of June 30, 2014.
Quality distribution is subject to change.
Portfolio percentages are based on total value of the investment portfolio.
As specified in the investment guidelines, the quality ratings represent the higher of Moodys Investors Service, Inc. (Moodys), Standard & Poors Corporation (S&P) or Fitch Inc. (Fitch) (Rating Agencies) credit ratings. The ratings of Moodys, S&P and Fitch represent these companies opinions as to the quality of the securities they rate. Ratings are relative and subjective and are not absolute standards of quality. The Fund may hold unrated securities which are not rated by a Rating Agency if the Investment Adviser determines based on its own independent analysis of the security that the security is of comparable quality to a rated security. A bonds credit quality does not remove the risk of an increase in interest rates or illiquidity in the market.
2
Montgomery Street Income Securities, Inc. (Unaudited)
Portfolio Manager Review
The investment concentration differences relative to the benchmark included an overweight to investment grade credit and EM, and out-of-index exposure to the high yield sector and non-U.S. developed market bonds, as seen in the sector distribution table below.
Derivatives were used in the Fund and were instrumental in attaining specific exposures targeted to gain from anticipated market developments. The Funds exposure to U.S. interest rates, which was negative for returns due to a flattening yield curve, was partly facilitated through the use of interest rate swaps. In Mexico and Brazil, exposure to local interest rates via the use of interest rate swaps and zero coupon swaps contributed to returns, as rates fell in these countries. A portion of the Funds credit positioning, which was positioned to take advantage of lower volatility and tightening spreads, added to returns and was implemented via the use of credit default swaps.
Sector Distribution (Unaudited)
As of June 30, 2014.
Sector distribution is subject to change.
Percentages represent total investment, which include the market value of derivative instruments.
3
Montgomery Street Income Securities, Inc. (Unaudited)
Portfolio Manager Review
Outlook and Strategy
The key output from PIMCOs annual secular forum in May 2014 was an economic framework called The New Neutral, which reflects expectations for low real policy rates and has important implications for global financial markets.
The New Neutral reflects global aggregate demand that is still insufficient to absorb bountiful aggregate supply five years after the financial crisis and despite extraordinary monetary policies. Total global debt outstanding remains at peak levels around the globe, and this combined with subpar growth is constraining central bankers and the process of policy normalization. While we anticipate an upward path for interest rates, the market (and the Feds) expectations for future interest rates are likely too aggressive.
This material contains the current opinions of the investment adviser only through the end of the period of the report as stated on the cover. Such opinions are subject to change without notice and should not be construed as a recommendation.
The Fund may not be suitable for all investors and investment in the Fund involves risk. The Fund may be affected by risks that include specific issuer credit risk, sector concentration risk, market capitalization risk and international investing risk. The Fund invests in individual bonds whose yields and value fluctuate so that an investment in the Fund may be worth more or less than its original cost. Bond investments are subject to interest rate risk such that when interest rates rise, the price of the bonds, and thus the value of the Fund, can decline and the investor can lose principal value. The Funds investments are also subject to credit risk and liquidity risk. Additionally, investing in foreign securities presents certain unique risks not associated with domestic investments, such as currency fluctuation, political and economic changes, and market risks. Derivative investments are subject to a number of risks such as liquidity risk, regulatory risk, interest rate risk, market risk, leverage risk, counterparty risk, valuation risk, correlation or basis risk, credit risk and management risk. Emerging markets investments may involve greater risk resulting from; less developed and stable economic and political systems, restrictions on investment by foreigners, liquidity and price volatility, exchange controls, confiscations of private property and other government restrictions, security registration, settlement and custody issues. High-yield bonds, lower-rated bonds and unrated securities are typically more sensitive due to adverse economic or political changes or individual developments specific to the issuer, which may result in higher default risk, volatility, lower interest income and market values. Mortgage-related and other asset-backed securities include interest rate risk, legal and documentation risk, extension or contraction/prepayment risk making them more sensitive to change in interest rates. All of these factors may result in greater share price volatility. Closed-end funds, unlike open-end funds, are not continuously offered or redeemed and often trade at a discount to their net asset value.
NOT FDIC/NCUA INSURED. NO BANK GUARANTEE. MAY LOSE VALUE. NOT A DEPOSIT.
NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY.
Past performance is no guarantee of future results.
This report is sent to stockholders of Montgomery Street Income Securities, Inc., for their information. It is not a prospectus, circular or representation intended for use in the purchase or sale of shares of the Fund or of any securities mentioned in the report.
4
Montgomery Street Income Securities, Inc. (Unaudited)
Other Information
June 30, 2014
Market Price and Net Asset Value
The Funds market price was $16.68 as of June 30, 2014, compared with $15.54 as of December 31, 2013. The Funds shares traded at a 9.0% discount to NAV of $18.33 at June 30, 2014, compared to a 12.1% discount to NAV of $17.68 at December 31, 2013. Shares of closed-end funds frequently trade at a discount to NAV. The price of the Funds shares is determined by a number of factors, several of which are beyond the control of Fund management. The Fund, therefore, cannot predict whether its shares will trade at, below or above its NAV.
The Funds market price is published daily in The New York Times and on The Wall Street Journals website at www.wsj.com. The Funds NAV is available daily on its website at www.montgomerystreetincome.com and published weekly in Barrons.
Dividends Paid
The Fund paid dividends of $0.15 per share on May 12, 2014 and $0.15 per share on August 11, 2014.
Dividend Reinvestment and Cash Purchase Option
The Fund maintains an optional Dividend Reinvestment and Cash Purchase Plan (Plan) for the automatic reinvestment of your dividends and capital gain distributions in shares of the Fund. Stockholders who participate in the Plan also can purchase additional shares of the Fund through the Plans voluntary cash investment feature. We recommend that you consider enrolling in the Plan to build your investment. The Plans features, including the voluntary cash investment feature, are described on page 33 of this report.
Limited Share Repurchases
The Fund is authorized to repurchase a limited number of shares of the Funds common stock from time to time when the shares are trading at less than 95% of their NAV. Repurchases are limited to a number of shares each calendar quarter approximately equal to the number of new shares issued under the Plan with respect to income distributed for the second preceding calendar quarter. There were 4,000 shares repurchased in the first quarter of 2014 and 4,000 shares repurchased in the second quarter of 2014. During the third quarter of 2014, 4,000 shares are expected to be repurchased.
Investment Portfolio
Following the Funds first and third quarter ends, a complete Investment Portfolio is filed with the U.S. Securities and Exchange Commission (SEC) on Form N-Q. The form is available in the Financial Reports tab on the Funds website at www.montgomerystreetincome.com, or on the SECs website at www.sec.gov, and it also may be reviewed and copied at the SECs Public Reference Room in Washington, DC. Information on the operation of the SECs Public Reference Room may be obtained by calling (800) SEC-0330.
Proxy Voting
Information about how the Fund voted any proxies related to its portfolio securities during the twelve-month period ended June 30, 2014 is available in the Financial Reports tab on the Funds website at www.montgomerystreetincome.com or on the SECs website at www.sec.gov. A description of the policies that the Fund uses to determine how to vote proxies relating to portfolio securities is available without charge, upon request, by calling (877) 437-3938 or on the SECs website at www.sec.gov.
Under the Funds current policy, it is the intention of the Fund to invest exclusively in non-voting securities. Under normal circumstances, the Fund does not intend to hold voting securities. In the event that the Fund does come into possession of any voting securities, the Fund intends to dispose of such securities as soon as it is reasonably practicable and prudent to do so. The Funds Board of Directors (the Board) may change this policy at any time.
Montgomery Street Income Securities, Inc. (Unaudited)
Other Information
June 30, 2014
Reports to Stockholders
The Funds annual and semiannual reports to stockholders will be mailed to stockholders, and also are available in the Financial Reports tab on the Funds website at www.montgomerystreetincome.com or by calling (877) 437-3938. Those stockholders who wish to view the Funds complete Investment Portfolio for the first and third quarters may view the Funds Form N-Q, as described above in Investment Portfolio.
Investment Objectives
The primary investment objective of the Fund is to seek as high a level of current income as is consistent with prudent investment risks, from a diversified portfolio primarily of debt securities. Capital appreciation is a secondary objective. The investment objectives of the Fund may be changed by the Board without stockholder approval. There can be no assurance that the investment objectives of the Fund will be attained. More information on the Funds Investment Objectives, Policies, Restrictions and Strategies is available at http://www.montgomerystreetincome.com, in the 2010 and latter annual reports under Financial Reports.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
Principal Amount ($) |
Value ($) | |||||||
Corporate Bonds 59.3% |
| |||||||
Consumer Discretionary 3.9% |
||||||||
Cablevision Systems Corp. Term Loan B, 2.65%, 04/09/20 (a) |
134,670 | 133,064 | ||||||
COX Communications Inc., 6.25%, 06/01/18 (b) |
263,000 | 298,991 | ||||||
CSC Holdings LLC, 8.63%, 02/15/19 |
2,000,000 | 2,377,500 | ||||||
Daimler Finance North America LLC, 1.30%, 07/31/15 (b) |
200,000 | 201,613 | ||||||
Daimler Finance North America LLC, 3.00%, 03/28/16 (b) |
300,000 | 310,482 | ||||||
NBCUniversal Media LLC, 2.88%, 04/01/16 |
300,000 | 311,341 | ||||||
Nissan Motor Acceptance Corp., 2.65%, 09/26/18 (c) (d) |
400,000 | 410,449 | ||||||
Numericable U.S. LLC Term Loan B-1, 4.50%, 04/23/20 (a) |
193,062 | 194,178 | ||||||
Numericable U.S. LLC Term Loan B-2, 4.50%, 04/23/20 (a) |
167,025 | 167,990 | ||||||
TCI Communications Inc., 8.75%, 08/01/15 |
35,000 | 38,138 | ||||||
Time Warner Cable Inc., 8.75%, 02/14/19 |
100,000 | 127,885 | ||||||
Time Warner Cable Inc., 8.25%, 04/01/19 |
290,000 | 367,419 | ||||||
Venetian Casino Resort LLC Term Loan, 3.25%, 12/16/20 (a) |
1,200,000 | 1,199,316 | ||||||
Viacom Inc., 4.25%, 09/15/15 |
200,000 | 208,590 | ||||||
Wynn Las Vegas LLC, 5.38%, 03/15/22 |
500,000 | 520,625 | ||||||
Wynn Macau Ltd., 5.25%, 10/15/21 (b) |
500,000 | 513,750 | ||||||
|
|
|||||||
7,381,331 | ||||||||
Consumer Staples 1.9% |
||||||||
Altria Group Inc., 9.70%, 11/10/18 (e) |
664,000 | 869,955 | ||||||
Altria Group Inc., 9.25%, 08/06/19 (e) |
111,000 | 147,486 | ||||||
ConAgra Foods Inc., 1.90%, 01/25/18 |
800,000 | 801,839 | ||||||
Kraft Foods Group Inc., 2.25%, 06/05/17 |
600,000 | 615,907 | ||||||
Kraft Foods Group Inc., 5.38%, 02/10/20 |
268,000 | 304,786 | ||||||
Reynolds American Inc., 1.05%, 10/30/15 |
950,000 | 949,768 | ||||||
|
|
|||||||
3,689,741 | ||||||||
Energy 11.8% |
||||||||
AK Transneft OJSC Via TransCapitalInvest Ltd., 8.70%, 08/07/18 |
2,150,000 | 2,558,500 | ||||||
Anadarko Petroleum Corp., 6.45%, 09/15/36 |
800,000 | 1,018,706 | ||||||
Canadian Natural Resources Ltd., 0.61%, 03/30/16 (a) |
50,000 | 50,108 | ||||||
Canadian Oil Sands Ltd., 7.75%, 05/15/19 (b) |
1,000,000 | 1,230,440 | ||||||
Canadian Oil Sands Ltd., 4.50%, 04/01/22 (b) |
1,000,000 | 1,055,931 | ||||||
CNOOC Nexen Finance 2014 ULC, 1.63%, 04/30/17 |
400,000 | 400,968 | ||||||
CNPC General Capital Ltd., 1.13%, 05/14/17 (a) (b) |
600,000 | 601,681 | ||||||
Dolphin Energy Ltd., 5.50%, 12/15/21 (b) |
800,000 | 909,000 | ||||||
El Paso Pipeline Partners Operating Co. LLC, 6.50%, 04/01/20 |
1,000,000 | 1,171,186 | ||||||
Energy Future Intermediate Holding Company LLC Term Loan, 4.25%, 04/28/16 (a) |
1,742,057 | 1,752,631 | ||||||
MarkWest Energy Partners LP, 5.50%, 02/15/23 |
500,000 | 533,750 | ||||||
MarkWest Energy Partners LP, 4.50%, 07/15/23 |
200,000 | 204,000 | ||||||
Midcontinent Express Pipeline LLC, 6.70%, 09/15/19 (b) |
400,000 | 442,000 | ||||||
Novatek OAO via Novatek Finance Ltd., 6.60%, 02/03/21 (b) |
800,000 | 856,000 | ||||||
Petrobras Global Finance BV, 2.59%, 03/17/17 (a) |
1,200,000 | 1,214,280 | ||||||
Petrobras Global Finance BV, 3.11%, 03/17/20 (a) |
400,000 | 410,980 | ||||||
Petrobras International Finance Co., 7.88%, 03/15/19 |
300,000 | 349,752 | ||||||
Pioneer Natural Resources Co., 6.88%, 05/01/18 |
2,000,000 | 2,363,178 | ||||||
Pioneer Natural Resources Co., 7.20%, 01/15/28 |
200,000 | 254,916 | ||||||
Plains All American Pipeline LP, 8.75%, 05/01/19 |
1,000,000 | 1,287,260 | ||||||
Pride International Inc., 6.88%, 08/15/20 |
621,000 | 754,478 | ||||||
Ras Laffan Liquefied Natural Gas Co. Ltd. III, 5.30%, 09/30/20 |
665,200 | 723,405 | ||||||
Rockies Express Pipeline LLC, 3.90%, 04/15/15 (b) |
200,000 | 202,000 | ||||||
Rosneft Finance SA, 7.88%, 03/13/18 |
500,000 | 570,625 | ||||||
Sinopec Group Overseas Development Ltd., 1.01%, 04/10/17 (a) (b) |
900,000 | 900,736 | ||||||
Targa Resources Partners LP, 5.25%, 05/01/23 |
400,000 | 418,000 |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
Principal Amount ($) |
Value ($) | |||||||
Transcontinental Gas Pipe Line Co. LLC, 6.40%, 04/15/16 |
250,000 | 273,234 | ||||||
|
|
|||||||
22,507,745 | ||||||||
Financials 29.0% |
||||||||
Ally Financial Inc., 3.50%, 01/27/19 |
800,000 | 807,760 | ||||||
American Tower Corp., 3.40%, 02/15/19 |
300,000 | 313,803 | ||||||
Banco de Credito del Peru, 4.25%, 04/01/23 (b) |
200,000 | 200,500 | ||||||
Banco do Brasil SA, 6.00%, 01/22/20 (b) |
500,000 | 551,250 | ||||||
Banco Santander Brasil SA, 4.50%, 04/06/15 (b) |
600,000 | 613,500 | ||||||
Banco Santander Brasil SA, 4.50%, 04/06/15 |
300,000 | 306,750 | ||||||
Banco Santander Chile, 3.75%, 09/22/15 (b) |
500,000 | 514,952 | ||||||
Banco Votorantim SA, 5.25%, 02/11/16 (b) |
400,000 | 417,000 | ||||||
Bank of America Corp., 6.00%, 09/01/17 |
115,000 | 129,899 | ||||||
Bank of America Corp., 2.65%, 04/01/19 |
800,000 | 810,762 | ||||||
Bank of America NA, 0.64%, 05/08/17 (a) |
600,000 | 599,654 | ||||||
Barclays Bank Plc, 10.18%, 06/12/21 (b) |
1,400,000 | 1,936,494 | ||||||
Barclays Bank Plc, 7.63%, 11/21/22 |
300,000 | 341,250 | ||||||
BBVA Bancomer SA, 4.50%, 03/10/16 (b) |
500,000 | 526,250 | ||||||
BBVA Bancomer SA, 6.50%, 03/10/21 (b) |
400,000 | 451,000 | ||||||
Bear Stearns Cos. LLC, 6.40%, 10/02/17 |
400,000 | 461,098 | ||||||
BNP Paribas, 7.78% (callable at 100 beginning 07/02/18) (f) (g), EUR |
300,000 | 488,061 | ||||||
BPCE SA, 0.86%, 06/17/17 (a) |
500,000 | 499,850 | ||||||
CBA Capital Trust II, 6.02% (callable at 100 beginning 03/15/16) (b) (f) (g) |
200,000 | 210,500 | ||||||
Citigroup Inc., 0.84%, 05/31/17 (a), EUR |
800,000 | 1,079,009 | ||||||
Cooperatieve Centrale Raiffeisen-Boerenleenbank BA, 11.00% (callable at 100 beginning |
1,000,000 | 1,342,690 | ||||||
Credit Agricole SA, 7.88% (callable at 100 beginning 01/23/24) (f) (g) |
200,000 | 218,500 | ||||||
Credit Suisse AG, 5.75%, 09/18/25, EUR |
300,000 | 458,031 | ||||||
Export-Import Bank of Korea, 4.00%, 01/11/17 |
2,700,000 | 2,881,545 | ||||||
Export-Import Bank of Korea, 4.00%, 01/29/21 |
200,000 | 212,411 | ||||||
Ford Motor Credit Co. LLC, 5.63%, 09/15/15 |
2,000,000 | 2,115,794 | ||||||
Ford Motor Credit Co. LLC, 3.98%, 06/15/16 |
500,000 | 528,297 | ||||||
Goldman Sachs Group Inc., 5.95%, 01/18/18 |
650,000 | 739,550 | ||||||
Goldman Sachs Group Inc., 6.15%, 04/01/18 |
600,000 | 687,316 | ||||||
Goldman Sachs Group Inc., 6.00%, 06/15/20 |
2,000,000 | 2,330,822 | ||||||
HBOS Plc, 6.75%, 05/21/18 (b) |
700,000 | 806,329 | ||||||
Host Hotels & Resorts LP, 6.00%, 11/01/20 |
450,000 | 491,065 | ||||||
HSBC Finance Corp., 6.68%, 01/15/21 |
300,000 | 358,630 | ||||||
ICICI Bank Ltd., 4.75%, 11/25/16 (b) |
300,000 | 315,897 | ||||||
International Lease Finance Corp., 7.13%, 09/01/18 (b) |
1,700,000 | 1,972,000 | ||||||
Intesa Sanpaolo SpA, 3.13%, 01/15/16 |
200,000 | 205,569 | ||||||
IPIC GMTN Ltd., 5.88%, 03/14/21, EUR |
200,000 | 341,640 | ||||||
JPMorgan Chase & Co., 0.78%, 04/25/18 (a) |
1,000,000 | 999,997 | ||||||
JPMorgan Chase & Co., 6.30%, 04/23/19 |
2,500,000 | 2,955,395 | ||||||
JPMorgan Chase Bank NA, 0.86%, 05/31/17 (a), EUR |
100,000 | 136,300 | ||||||
JPMorgan Chase Bank NA, 0.65%, 06/02/17 (a) |
400,000 | 400,228 | ||||||
JPMorgan Chase Bank NA, 6.00%, 10/01/17 |
600,000 | 681,964 | ||||||
Korea Exchange Bank, 3.13%, 06/26/17 (b) |
400,000 | 415,730 | ||||||
Lazard Group LLC, 6.85%, 06/15/17 |
500,000 | 567,179 | ||||||
LBG Capital No.2 Plc, 15.00%, 12/21/19 (h), GBP |
100,000 | 248,152 | ||||||
LeasePlan Corp NV, 3.00%, 10/23/17 (b) |
500,000 | 520,523 | ||||||
Lloyds Banking Group Plc, 7.50% (callable at 100 beginning 06/27/24) (f) (g) |
477,000 | 507,528 | ||||||
Merrill Lynch & Co. Inc., 6.88%, 04/25/18 |
2,400,000 | 2,825,414 | ||||||
Morgan Stanley, 6.63%, 04/01/18 |
1,000,000 | 1,168,844 | ||||||
Morgan Stanley, 7.30%, 05/13/19 |
800,000 | 978,063 | ||||||
Morgan Stanley, 5.50%, 01/26/20 |
2,850,000 | 3,261,500 | ||||||
Rabobank Capital Funding Trust III, 5.25% (callable at 100 beginning 10/21/16) (c) (d) (f) (g) |
800,000 | 840,000 | ||||||
Russian Agricultural Bank OJSC Via RSHB Capital SA, 6.30%, 05/15/17 |
300,000 | 316,500 | ||||||
Sberbank of Russia Via SB Capital SA, 5.50%, 07/07/15 |
700,000 | 725,914 | ||||||
Sberbank Via SB Capital SA, 5.40%, 03/24/17 |
600,000 | 638,280 |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
Principal Amount ($) |
Value ($) | |||||||
Shinhan Bank, 4.13%, 10/04/16 (b) |
200,000 | 212,720 | ||||||
SLM Corp., 3.88%, 09/10/15 |
1,000,000 | 1,020,000 | ||||||
SLM Corp., 8.45%, 06/15/18 |
500,000 | 591,250 | ||||||
SLM Corp., 5.50%, 01/15/19 |
200,000 | 212,500 | ||||||
Springleaf Finance Corp., 6.90%, 12/15/17 |
500,000 | 555,000 | ||||||
State Bank of India, 3.25%, 04/18/18 (b) |
800,000 | 804,720 | ||||||
Sumitomo Mitsui Financial Group Inc., 4.44%, 04/02/24 (c) (d) |
350,000 | 365,558 | ||||||
Sydney Airport Finance Co. Pty Ltd., 5.13%, 02/22/21 (b) (e) |
2,100,000 | 2,330,191 | ||||||
UBS AG, 7.63%, 08/17/22 |
300,000 | 361,059 | ||||||
UBS AG Stamford, 5.88%, 12/20/17 |
175,000 | 199,844 | ||||||
Union Bank NA, 0.98%, 09/26/16 (a) |
500,000 | 505,004 | ||||||
Union Bank NA, 0.62%, 05/05/17 (a) |
700,000 | 699,604 | ||||||
USB Capital IX, 3.50% (callable at 100 beginning 02/07/13) (f) (g) |
625,000 | 532,813 | ||||||
Ventas Realty LP, 3.13%, 11/30/15 |
100,000 | 103,211 | ||||||
Weyerhaeuser Co., 7.38%, 10/01/19 |
1,000,000 | 1,231,205 | ||||||
|
|
|||||||
55,177,618 | ||||||||
Health Care 1.7% |
||||||||
Boston Scientific Corp., 6.40%, 06/15/16 |
1,200,000 | 1,323,187 | ||||||
HCA Inc., 6.50%, 02/15/20 |
1,700,000 | 1,912,500 | ||||||
|
|
|||||||
3,235,687 | ||||||||
Industrials 1.8% |
||||||||
Asciano Finance Ltd., 5.00%, 04/07/18 (b) |
300,000 | 326,625 | ||||||
Aviation Capital Group Corp., 7.13%, 10/15/20 (b) |
600,000 | 691,275 | ||||||
AWAS Aviation Capital Ltd., 7.00%, 10/17/16 (b) |
664,000 | 683,920 | ||||||
Masco Corp., 4.80%, 06/15/15 |
400,000 | 414,033 | ||||||
Masco Corp., 6.13%, 10/03/16 |
300,000 | 330,375 | ||||||
Masco Corp., 5.85%, 03/15/17 |
450,000 | 496,125 | ||||||
Masco Corp., 6.63%, 04/15/18 |
400,000 | 449,000 | ||||||
|
|
|||||||
3,391,353 | ||||||||
Information Technology 1.2% |
||||||||
Activision Blizzard Inc. Term Loan B, 3.25%, 09/15/20 (a) |
84,750 | 84,894 | ||||||
Baidu Inc., 2.75%, 06/09/19 |
400,000 | 401,497 | ||||||
Dell Inc. Term Loan B, 3.75%, 09/24/18 (a) |
950,000 | 948,594 | ||||||
Tencent Holdings Ltd., 3.38%, 05/02/19 (b) |
900,000 | 920,001 | ||||||
|
|
|||||||
2,354,986 | ||||||||
Materials 2.4% |
||||||||
ALROSA Finance SA, 7.75%, 11/03/20 (b) |
500,000 | 553,150 | ||||||
Anglo American Capital Plc, 1.18%, 04/15/16 (a) (c) (d) |
400,000 | 401,270 | ||||||
Dow Chemical Co., 8.55%, 05/15/19 (e) |
990,000 | 1,272,336 | ||||||
Georgia-Pacific LLC, 5.40%, 11/01/20 (b) |
1,600,000 | 1,846,463 | ||||||
Metalloinvest Finance Ltd., 5.63%, 04/17/20 (b) |
400,000 | 388,000 | ||||||
|
|
|||||||
4,461,219 | ||||||||
Telecommunication Services 4.1% |
||||||||
AT&T Inc., 0.65%, 03/30/17 (a) |
500,000 | 500,951 | ||||||
Crown Castle International Co. New Term Loan B, 3.00%, 01/31/21 (a) |
400,000 | 399,804 | ||||||
Crown Castle International Corp., 5.25%, 01/15/23 |
500,000 | 521,250 | ||||||
Orange SA, 2.13%, 09/16/15 |
600,000 | 609,201 | ||||||
Qtel International Finance Ltd., 4.75%, 02/16/21 (b) |
300,000 | 325,950 | ||||||
Rogers Communications Inc., 7.50%, 03/15/15 |
179,000 | 187,643 | ||||||
Telecom Italia Capital SA, 7.00%, 06/04/18 |
100,000 | 114,750 | ||||||
Telecom Italia SpA, 7.38%, 12/15/17, GBP |
650,000 | 1,250,620 | ||||||
Telecom Italia SpA, 6.38%, 06/24/19, GBP |
300,000 | 558,742 | ||||||
Telefonica Emisiones SAU, 3.73%, 04/27/15 |
1,400,000 | 1,434,201 | ||||||
Verizon Communications Inc., 1.76%, 09/15/16 (a) |
700,000 | 719,283 |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
Principal Amount ($) |
Value ($) | |||||||
Verizon Communications Inc., 4.50%, 09/15/20 |
1,000,000 | 1,099,796 | ||||||
|
|
|||||||
7,722,191 | ||||||||
Utilities 1.5% |
||||||||
Centrais Eletricas Brasileiras SA, 6.88%, 07/30/19 |
400,000 | 444,000 | ||||||
Duquesne Light Holdings Inc., 6.40%, 09/15/20 (b) |
400,000 | 474,864 | ||||||
Florida Power Corp., 5.80%, 09/15/17 |
195,000 | 222,896 | ||||||
Korea East-West Power Co. Ltd., 2.50%, 07/16/17 (b) |
1,400,000 | 1,428,214 | ||||||
Saudi Electricity Global Sukuk Co. 2, 5.06%, 04/08/43 (b) |
200,000 | 194,750 | ||||||
|
|
|||||||
2,764,724 | ||||||||
|
||||||||
Total Corporate Bonds (cost $106,017,731)
|
|
|
112,686,595
|
| ||||
Non-U.S. Government Agency Asset-Backed Securities 5.4% |
| |||||||
Aegis Asset Backed Securities Trust REMIC, (2005, 3, M1), 0.62%, 08/25/35 (a) |
952,841 | 938,333 | ||||||
American Airlines Pass-Through Trust, (2013, 2, A), 4.95%, 01/15/23 (b) |
388,160 | 420,669 | ||||||
Banc of America Funding Trust REMIC, (2004, A, 1A3), 5.14%, 09/20/34 (a) |
230,487 | 230,731 | ||||||
Banc of America Mortgage Securities Inc. REMIC, (2005, H, 2A5), 2.77%, 09/25/35 (a) |
758,746 | 720,058 | ||||||
Bayview Commercial Asset Trust, Interest Only REMIC, (2007, 2A, IO), 4.13%, 07/25/37 (a) (b) |
3,301,404 | | ||||||
Bayview Commercial Asset Trust, Interest Only REMIC, (2007, 4A, IO), 3.53%, 09/25/37 (a) (b) |
3,670,511 | 232,050 | ||||||
Bear Stearns Adjustable Rate Mortgage Trust REMIC, (2004, 6, 2A1), 2.82%, 09/25/34 (a) |
513,806 | 484,081 | ||||||
Citigroup Mortgage Loan Trust Inc. REMIC, (2004, NCM2, 1CB2), 6.75%, 08/25/34 |
123,861 | 133,151 | ||||||
Continental Airlines Inc. Pass-Through Trust, (2009, 1, A), 9.00%, 07/08/16 |
1,549,954 | 1,751,448 | ||||||
Credit Suisse First Boston Mortgage Securities Corp. REMIC, (2004, AR8, 2A1), 2.58%, 09/25/34 (a) |
704,092 | 709,177 | ||||||
Credit-Based Asset Servicing and Securitization LLC REMIC, (2006, SC1, A), 0.42%, 05/25/36 (a) (b) |
61,675 | 57,471 | ||||||
Holmes Master Issuer Plc, (2011, 1A, A3), 1.68%, 10/15/54 (a) (b), EUR |
259,528 | 355,506 | ||||||
IndyMac INDX Mortgage Loan Trust REMIC, (2005, AR14, 2A1A), 0.45%, 07/25/35 (a) |
53,314 | 47,380 | ||||||
Inwood Park CDO Ltd., (2006, 1A, A1A), 0.45%, 01/20/21 (a) (b) |
98,000 | 97,335 | ||||||
Nationstar NIM Ltd. Trust, (2007, A, A), 9.79%, 03/25/37 (i) (j) |
22,008 | | ||||||
Truman Capital Mortgage Loan Trust REMIC, (2006, 1, A), 0.41%, 03/25/36 (a) (b) |
1,223,129 | 1,141,358 | ||||||
United Air Lines Inc. Pass-Through Trust, (2009, 1A, O), 10.40%, 11/01/16 |
787,020 | 895,235 | ||||||
Washington Mutual Mortgage Pass-Through Certificates REMIC, (2005, AR16, 1A3), 2.36%, 12/25/35 (a) |
1,087,288 | 1,048,163 | ||||||
Washington Mutual Mortgage Pass-Through Certificates REMIC, (2006, 5, 2CB1), 6.00%, 07/25/36 |
1,098,081 | 843,378 | ||||||
Wells Fargo Mortgage Backed Securities Trust REMIC, (2006, 1, A3), 5.00%, 03/25/21 |
145,963 | 149,293 | ||||||
|
||||||||
Total Non-U.S. Government Agency Asset-Backed Securities (cost $10,250,219)
|
|
|
10,254,817
|
| ||||
Government and Agency Obligations 29.8% |
| |||||||
Government Securities 29.8% |
||||||||
Sovereign 7.7% |
||||||||
Australia Government Bond, 5.50%, 04/21/23, AUD |
386,000 | 419,926 | ||||||
Banco Nacional de Desenvolvimento Economico e Social, 5.50%, 07/12/20 (b) |
400,000 | 433,380 | ||||||
Brazil Notas do Tesouro Nacional, 10.00%, 01/01/21, BRL |
4,730,000 | 1,956,075 | ||||||
Brazil Notas do Tesouro Nacional, 10.00%, 01/01/23, BRL |
190,000 | 76,958 | ||||||
Brazil Notas do Tesouro Nacional, 10.00%, 01/01/25, BRL |
3,810,000 | 1,508,929 | ||||||
Italy Buoni Poliennali Del Tesoro, 3.75%, 05/01/21, EUR |
800,000 | 1,214,876 | ||||||
Italy Buoni Poliennali Del Tesoro, 5.50%, 11/01/22, EUR |
2,200,000 | 3,694,753 | ||||||
Slovenia Government International Bond, 4.70%, 11/01/16 (b), EUR |
400,000 | 593,011 | ||||||
Spain Government Bond, 2.75%, 04/30/19, EUR |
2,365,000 | 3,456,987 | ||||||
Spain Government Bond, 5.85%, 01/31/22, EUR |
685,000 | 1,180,399 | ||||||
|
|
|||||||
14,535,294 | ||||||||
U.S. Treasury Securities 22.1% |
||||||||
U.S. Treasury Bond, 3.63%, 08/15/43 |
2,500,000 | 2,635,155 | ||||||
U.S. Treasury Bond, 0.00%, 11/15/43 (k) |
1,800,000 | 642,636 | ||||||
U.S. Treasury Bond, 3.75%, 11/15/43 |
4,400,000 | 4,742,373 | ||||||
U.S. Treasury Bond, 3.63%, 02/15/44 |
800,000 | 842,500 | ||||||
U.S. Treasury Note, 0.25%, 09/15/14 (l) |
100,000 | 100,035 | ||||||
U.S. Treasury Note, 0.25%, 09/30/14 (l) |
331,000 | 331,155 |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
Contracts/ Principal |
Value ($) | |||||||
|
|
|||||||
U.S. Treasury Note, 0.25%, 10/31/14 (l) |
26,000 | 26,016 | ||||||
U.S. Treasury Note, 1.75%, 05/15/23 (l) |
10,100,000 | 9,561,074 | ||||||
U.S. Treasury Note, 2.50%, 08/15/23 |
7,590,000 | 7,630,918 | ||||||
U.S. Treasury Note, 2.75%, 11/15/23 (l) |
1,800,000 | 1,843,735 | ||||||
U.S. Treasury Note, 2.75%, 02/15/24 |
9,600,000 | 9,811,498 | ||||||
U.S. Treasury Note, 2.50%, 05/15/24 |
3,900,000 | 3,892,079 | ||||||
|
|
|||||||
42,059,174 | ||||||||
U.S. Government Agency Mortgage-Backed Securities 0.0% |
||||||||
Federal Home Loan Mortgage Corp. 0.0% |
||||||||
Federal Home Loan Mortgage Corp. REMIC, 7.00%, 08/15/21 |
9,262 | 10,165 | ||||||
|
||||||||
Total Government and Agency Obligations (cost $55,287,283)
|
56,604,633 | |||||||
Purchased Options 0.1% |
||||||||
Interest Rate Put Swaption, 3 month LIBOR versus 3.45% fixed, Expiration 09/21/15, BBP (c) |
22 | 129,985 | ||||||
|
||||||||
Total Purchased Options (cost $174,446) |
129,985 | |||||||
Short Term Investments 4.6% |
||||||||
Repurchase Agreements 1.1% |
||||||||
Repurchase Agreement with CGM, 0.10% (Collateralized by $2,175,000 U.S. Treasury Note, 1.88%, due 09/30/17, value $2,234,897) acquired 06/30/14, due 07/02/14 at $2,200,006 |
2,200,000 | 2,200,000 | ||||||
Certificates of Deposit 3.5% |
||||||||
Banco Bilbao Vizcaya Argentaria, 0.98%, 10/23/15 |
500,000 | 499,869 | ||||||
Banco Bilbao Vizcaya Argentaria, 1.08%, 05/16/16 (a) |
500,000 | 499,806 | ||||||
Credit Suisse, 0.55%, 08/24/15 (a) |
500,000 | 499,713 | ||||||
Credit Suisse, 0.60%, 01/28/16 (a) |
800,000 | 800,194 | ||||||
Intesa Sanpaolo SpA, 1.61%, 04/11/16 (a) |
400,000 | 403,716 | ||||||
Intesa Sanpaolo SpA, 1.65%, 04/07/15 |
1,500,000 | 1,502,640 | ||||||
Itau Unibanco, 1.51%, 05/31/16 (a) |
2,400,000 | 2,396,827 | ||||||
|
||||||||
Total Short Term Investments (cost $8,799,956) |
8,802,765 | |||||||
|
||||||||
Total Investments - 99.2% (cost $180,529,635) |
188,478,795 | |||||||
Total Forward Sales Commitments - (0.9%) (proceeds $1,665,391) |
(1,678,595) | |||||||
Other Assets and Liabilities, Net 1.7% |
3,239,232 | |||||||
|
||||||||
Total Net Assets - 100%
|
$
|
190,039,432
|
| |||||
Forward Sales Commitments (0.9%) |
||||||||
U.S. Government Agency Mortgage-Backed Securities (0.9%) |
||||||||
Federal National Mortgage Association, 5.50%, 07/15/44, TBA (m) |
$ | (1,500,000) | $ | (1,678,595) | ||||
|
||||||||
Total Forward Sales Commitments (proceeds $1,665,391) |
$ | (1,678,595) |
(a) | Floating rate note. Floating rate notes are securities whose yields vary with a designated market index or market rate. Rate stated was in effect as of June 30, 2014. |
(b) | The Funds investment advisor has deemed this security, which is exempt from registration under the Securities Act of 1933 security to be liquid based on procedures approved by the Funds Board of Directors. As of June 30, 2014, the aggregate value of these liquid securities was $32,828,861, which represented 17.3% of net assets. |
(c) | The Funds investment advisor has deemed this security to be illiquid based on procedures approved by the Funds Board of Directors. |
(d) | Security is restricted to resale to institutional investors. See Restricted Securities in the Notes to the Investment Portfolio. |
(e) | The interest rate for this security is inversely affected by upgrades or downgrades to the credit rating of the issuer. |
(f) | Perpetual maturity security. |
(g) | Interest rate is fixed until stated call date and variable thereafter. |
(h) | Convertible security. |
(i) | Security is in default relating to principal and/or interest. |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Portfolio
June 30, 2014
(j) | Non-income producing security. |
(k) | Security issued with a zero coupon. Income is recognized through the accretion of discount. |
(l) | All or a portion of the security is pledged or segregated as collateral. See the Notes to Financial Statements. |
(m) | All or a portion of the investment was sold on a delayed delivery basis. As of June 30, 2014, the total proceeds of investments sold on a delayed delivery basis was $1,665,391. |
Currencies: |
||
AUD - Australian Dollar |
INR - Indian Rupee | |
BRL - Brazilian Real |
JPY - Japanese Yen | |
EUR - European Currency Unit (Euro) |
MXN - Mexican Peso | |
GBP - British Pound |
USD - United States Dollar |
Abbreviations: |
||
ABS - Asset Backed Securities |
NIM - Net Interest Margin | |
CDO - Collateralized Debt Obligation |
OTC - Over the counter | |
Euribor - Europe Interbank Offered Rate Grade |
REMIC - Real Estate Mortgage Investment Conduit | |
iTraxx - Group of international credit derivative indices |
TBA - To Be Announced (Securities purchased | |
monitored by the International Index Company |
on a delayed delivery basis) | |
LIBOR - London Interbank Offered Rate |
Counterparty Abbreviations: |
||
BBP - Barclays Bank Plc |
||
CGM - Citigroup Global Markets |
||
GSB - Goldmans Sachs Bank |
||
GSI - Goldman Sachs International |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Investment Portfolio
June 30, 2014
Restricted Securities. The Fund invests in securities that are restricted under the Securities Act of 1933 or which are subject to legal, contractual, or other agreed upon restrictions on resale. Restricted securities are often purchased in private placement transactions and cannot be sold without prior registration unless the sale is pursuant to an exemption under the Securities Exchange Act of 1933, as amended. As of June 30, 2014, the Fund held investments in restricted securities, excluding certain securities exempt from registration under the 1933 Act which are deemed to be liquid, as follows:
Initial Acquisition Date |
Cost | Ending Value |
Percent of Net Assets |
|||||||||||||
Anglo American Capital Plc , 1.18%, 04/15/16 |
04/09/2014 | $ | 400,000 | $ | 401,270 | 0.2% | ||||||||||
Nissan Motor Acceptance Corp. , 2.65%, 09/26/18 |
03/24/2014 | 405,911 | 410,449 | 0.2 | ||||||||||||
Rabobank Capital Funding Trust III , 5.25% (callable at 100 beginning 10/21/16) |
03/25/2010 | 728,316 | 840,000 | 0.5 | ||||||||||||
Sumitomo Mitsui Financial Group Inc. , 4.44%, 04/02/24 |
03/27/2014 | 350,000 | 365,558 | 0.2 | ||||||||||||
|
|
|||||||||||||||
$ | 1,884,227 | $ | 2,017,277 | 1.1% | ||||||||||||
|
|
Schedule of Written Options
Expiration Date |
Exercise Price |
Contracts/ Notional Contracts |
Value | |||||||||||||||||
Foreign Currency Options |
||||||||||||||||||||
Brazilian Real versus USD Call Option, GSB |
06/02/2015 | BRL | 2.70 | 500,000 | $ | (9,881) | ||||||||||||||
Indian Rupee versus USD Call Option, GSB |
06/02/2015 | INR | 67.00 | 400,000 | (7,591) | |||||||||||||||
Index Options |
||||||||||||||||||||
iTraxx Europe Main Series 21 Put Option, GSI |
06/20/2019 | 1.00 | 56 | (4,240) | ||||||||||||||||
Interest Rate Swaptions |
||||||||||||||||||||
Put Swaption, 3-Month LIBOR versus 2.50% fixed, BBP |
09/21/2015 | N/A | 92 | (139,782) | ||||||||||||||||
|
|
|||||||||||||||||||
900,148 | $ | (161,494) | ||||||||||||||||||
|
|
Summary of Written Options
Contracts/ Notional Contracts |
Premiums | |||||||
Options outstanding at December 31, 2013 |
1,823 | $ | 541,431 | |||||
Options written during the period |
900,501 | 172,899 | ||||||
Options closed during the period |
(1,015 | ) | (138,212) | |||||
Options expired during the period |
(1,161 | ) | (368,274) | |||||
|
|
|||||||
Options outstanding at June 30, 2014 |
900,148 | $ | 207,844 | |||||
|
|
Schedule of Exchange Traded Futures Options
Expiration Date |
Exercise Price |
Variation Margin (Payable) |
Written Contracts |
Unrealized (Depreciation) |
||||||||||||||||
3-Month Euro Euribor Interest Rate Future Call Option |
12/15/2014 | EUR 99.50 | $ | (2,259) | 66 | $ | (31,851) | |||||||||||||
3-Month Euro Euribor Interest Rate Future Put Option |
12/15/2014 | EUR 99.50 | | 66 | 59,896 | |||||||||||||||
|
|
|||||||||||||||||||
$ | (2,259) | 132 | $ | 28,045 | ||||||||||||||||
|
|
Schedule of Open Futures Contracts
Contracts Long |
Unrealized Appreciation |
|||||
5-Year USD Deliverable Interest Rate Swap Future, Expiration September 2014 |
19 | $ | 6,510 | |||
90-Day Eurodollar Future, Expiration March 2015 |
129 | 50,078 | ||||
|
|
|||||
$ | 56,588 | |||||
|
|
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Investment Portfolio
June 30, 2014
Schedule of Open Forward Foreign Currency Contracts
Counterparty | Currency Purchased/Sold |
Settlement Date |
Notional Amount |
Currency Value |
Unrealized Gain/(Loss) | |||||||
GSB |
BRL/USD | 07/02/2014 | BRL | 1,569,645 | $ 710,407 | $ 17,407 | ||||||
GSB |
BRL/USD | 07/02/2014 | BRL | 1,571,031 | 711,035 | 18,035 | ||||||
BBP |
INR/USD | 07/23/2014 | INR | 32,048,660 | 529,980 | (8,020) | ||||||
BBP |
INR/USD | 07/23/2014 | INR | 17,982,000 | 297,363 | (2,637) | ||||||
GSB |
MXN/USD | 08/25/2014 | MXN | 2,975,000 | 228,435 | 2,586 | ||||||
GSB |
MXN/USD | 09/23/2014 | MXN | 8,556,328 | 655,736 | (348) | ||||||
GSB |
USD/AUD | 07/02/2014 | AUD | (428,000) | (403,583) | (5,904) | ||||||
GSB |
USD/AUD | 08/05/2014 | AUD | (428,000) | (402,501) | (1,344) | ||||||
BBP |
USD/BRL | 07/02/2014 | BRL | (552,894) | (250,235) | (3,187) | ||||||
BBP |
USD/BRL | 07/02/2014 | BRL | (1,203,000) | (544,467) | (11,978) | ||||||
BBP |
USD/BRL | 07/02/2014 | BRL | (4,263,770) | (1,929,744) | (148,051) | ||||||
BBP |
USD/BRL | 08/04/2014 | BRL | (1,310,000) | (586,876) | (41,747) | ||||||
BBP |
USD/BRL | 08/04/2014 | BRL | (2,878,988) | (1,289,779) | 9,785 | ||||||
GSB |
USD/BRL | 10/02/2014 | BRL | (124,818) | (55,011) | (1,080) | ||||||
GSB |
USD/BRL | 10/02/2014 | BRL | (125,447) | (55,289) | (1,289) | ||||||
GSB |
USD/BRL | 10/02/2014 | BRL | (50,699) | (22,345) | (345) | ||||||
GSB |
USD/BRL | 01/05/2015 | BRL | (1,651,558) | (709,700) | (16,700) | ||||||
GSB |
USD/BRL | 01/05/2015 | BRL | (1,653,082) | (710,355) | (17,355) | ||||||
BBP |
USD/EUR | 08/21/2014 | EUR | (6,210,000) | (8,505,024) | (24,075) | ||||||
GSB |
USD/EUR | 08/21/2014 | EUR | (820,000) | (1,123,047) | (13,280) | ||||||
BBP |
USD/EUR | 08/21/2014 | EUR | (1,052,000) | (1,440,787) | (11,279) | ||||||
GSB |
USD/EUR | 08/21/2014 | EUR | (1,516,000) | (2,076,267) | (16,849) | ||||||
BBP |
USD/EUR | 08/21/2014 | EUR | (871,000) | (1,192,895) | (6,248) | ||||||
BBP |
USD/GBP | 09/11/2014 | GBP | (1,163,000) | (1,989,195) | (37,089) | ||||||
BBP |
USD/JPY | 07/02/2014 | JPY | (190,000,000) | (1,875,524) | (6,584) | ||||||
BBP |
USD/JPY | 08/05/2014 | JPY | (190,000,000) | (1,876,035) | (4,770) | ||||||
GSB |
USD/MXN | 08/25/2014 | MXN | (3,715,403) | (285,287) | (287) | ||||||
BBP |
USD/MXN | 08/25/2014 | MXN | (4,709,460) | (361,616) | (1,616) | ||||||
| ||||||||||||
$ (24,552,606) | $ (334,249) | |||||||||||
|
Schedule of Interest Rate Swap Agreements
Counterparty | Floating Rate Index | Paying Floating Rate |
Fixed Rate | Expiration Date | Notional Amount1 |
Premiums Paid |
Unrealized Appreciation / (Depreciation) |
|||||||||||||||||
Over the Counter Interest Rate Swap Agreements |
| |||||||||||||||||||||||
GSB |
Brazil Interbank Rate | Paying | 12.06% | 01/04/2021 | BRL | 2,700,000 | $ | 9,651 | $ | (5,976) | ||||||||||||||
BBP |
Mexican Interbank Rate | Paying | 6.80% | 12/26/2023 | MXN | 7,100,000 | 1,206 | 33,032 | ||||||||||||||||
BBP |
Mexican Interbank Rate | Paying | 6.80% | 12/26/2023 | MXN | 3,000,000 | 2,757 | 11,710 | ||||||||||||||||
BBP |
Mexican Interbank Rate | Paying | 6.80% | 12/26/2023 | MXN | 34,000,000 | 43,512 | 120,446 | ||||||||||||||||
GSB |
Mexican Interbank Rate | Paying | 6.80% | 12/26/2023 | MXN | 5,700,000 | 1,787 | 25,700 | ||||||||||||||||
|
|
|||||||||||||||||||||||
$ | 58,913 | $ | 184,912 | |||||||||||||||||||||
|
|
Counterparty | Floating Rate Index | Paying/ Receiving Floating Rate |
Fixed Rate | Expiration Date | Notional Amount1 |
Unrealized Appreciation / (Depreciation) |
||||||||||||||
Centrally Cleared Interest Rate Swap Agreements |
| |||||||||||||||||||
N/A |
3-Month Euribor | Receiving | 0.40% | 03/16/2015 | EUR | 5,500,000 | $ | (10,808) | ||||||||||||
N/A |
3-Month LIBOR | Paying | 2.00% | 12/18/2018 | 3,300,000 | 72,108 | ||||||||||||||
N/A |
3-Month LIBOR | Paying | 2.65% | 07/31/2023 | 1,500,000 | 18,641 | ||||||||||||||
N/A |
6-Month Euribor | Receiving | 2.00% | 09/17/2024 | EUR | 3,800,000 | (170,077) | |||||||||||||
N/A |
British Bankers Association Yen LIBOR | Paying | 1.00% | 09/18/2023 | JPY | 256,300,000 | (56,454) | |||||||||||||
N/A |
London-Interbank Offered Rate | Receiving | 3.00% | 09/17/2024 | GBP | 1,000,000 | (9,577) | |||||||||||||
|
|
|||||||||||||||||||
$ | (156,167) | |||||||||||||||||||
|
|
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Investment Portfolio
June 30, 2014
Schedule of Credit Default Swap Agreements
Counter- party |
Reference Obligation | Implied Credit Spread 3 |
Fixed Received Rate 6 |
Expiration Date |
Notional Amount 1,5 |
Value | Premiums Paid / (Received) |
Unrealized Appreciation / (Depreciation) |
||||||||||||||||||
Over the Counter Credit Default Swap Agreements |
| |||||||||||||||||||||||||
Credit default swap agreements - sell protection 2 |
| |||||||||||||||||||||||||
BBP |
Anadarko Petroleum Corp., 1.00%, 06/20/17 | 0.18% | 1.00 | % | 06/20/2017 | $ | (100,000) | $ | 2,426 | $ | (3,337 | ) | $ | 5,793 | ||||||||||||
GSI |
Canadian Natural Resources Ltd., 6.25%, 03/15/38 | 0.05% | 1.00 | % | 12/20/2015 | (500,000) | 7,048 | 1,713 | 5,487 | |||||||||||||||||
GSI |
Carlsberg Breweries A/S, 3.38%, 10/13/17 | 0.65% | 1.00 | % | 03/20/2019 | (136,930) | 2,245 | 601 | 1,686 | |||||||||||||||||
BBP |
Federative Republic of Brazil, 12.25%, 03/06/30 | 0.58% | 1.00 | % | 06/20/2016 | (1,800,000) | 15,059 | (5,979 | ) | 21,588 | ||||||||||||||||
GSI |
Federative Republic of Brazil, 12.25%, 03/06/30 | 1.96% | 1.00 | % | 03/20/2024 | (1,300,000) | (101,609 | ) | (134,804 | ) | 33,592 | |||||||||||||||
GSI |
Finmeccanica Finance S.A., 5.75%, 12/12/18 | 1.38% | 5.00 | % | 03/20/2018 | (273,860) | 36,144 | 16,724 | 19,839 | |||||||||||||||||
GSI |
Forest Oil Corp., 7.25%, 06/15/19 | 5.23% | 5.00 | % | 06/20/2017 | (500,000) | (3,064 | ) | (13,125 | ) | 10,825 | |||||||||||||||
GSI |
Gazprom International BV, 5.63%, 07/22/13 | 1.88% | 1.00 | % | 03/20/2017 | (2,000,000) | (46,500 | ) | (166,265 | ) | 120,376 | |||||||||||||||
GSI |
KB Home, 9.10%, 09/15/17 | 2.58% | 5.00 | % | 06/20/2019 | (300,000) | 33,331 | 24,549 | 9,241 | |||||||||||||||||
BBP |
Kingdom of Spain, 5.50%, 07/30/17 | 0.60% | 1.00 | % | 12/20/2018 | (300,000) | 5,288 | (17,663 | ) | 23,043 | ||||||||||||||||
GSI |
Kingdom of Spain, 5.50%, 07/30/17 | 0.60% | 1.00 | % | 12/20/2018 | (900,000) | 15,864 | (40,979 | ) | 57,119 | ||||||||||||||||
GSI |
NRG Energy Inc., 8.50%, 06/15/19 | 1.09% | 5.00 | % | 03/20/2017 | (200,000) | 21,083 | (14,306 | ) | 35,694 | ||||||||||||||||
BBP |
Petrobas International Finance Co., 8.38%, 12/10/18 | 1.82% | 1.00 | % | 06/20/2018 | (400,000) | (12,486 | ) | (18,434 | ) | 6,070 | |||||||||||||||
BBP |
Republic of Italy, 6.88%, 09/27/23 | 0.85% | 1.00 | % | 12/20/2018 | (600,000) | 3,842 | (46,024 | ) | 50,050 | ||||||||||||||||
GSI |
Republic of Italy, 6.88%, 09/27/23 | 0.85% | 1.00 | % | 12/20/2018 | (200,000) | 1,281 | (13,026 | ) | 14,368 | ||||||||||||||||
GSI |
Republic of Italy, 6.88%, 09/27/23 | 0.92% | 1.00 | % | 06/20/2019 | (200,000) | 769 | (1,360 | ) | 2,190 | ||||||||||||||||
GSI |
Republic of Italy, 6.88%, 09/27/23 | 0.92% | 1.00 | % | 06/20/2019 | (1,300,000) | 4,999 | 9,915 | (4,519) | |||||||||||||||||
GSI |
Russian Federation, 7.50%, 03/31/30 | 1.32% | 1.00 | % | 09/20/2017 | (700,000) | (7,058 | ) | (39,779 | ) | 32,935 | |||||||||||||||
BBP |
United Mexican States, 7.50%, 04/08/33 | 0.22% | 1.00 | % | 06/20/2016 | (1,200,000) | 18,670 | 1,067 | 17,970 | |||||||||||||||||
BBP |
United Mexican States, 5.95%, 03/19/19 | 0.59% | 1.00 | % | 03/20/2019 | (300,000) | 5,645 | (586 | ) | 6,322 | ||||||||||||||||
GSI |
United Mexican States, 5.95%, 03/19/19 | 0.33% | 1.00 | % | 09/20/2017 | (1,600,000) | 34,470 | (25,181 | ) | 60,140 | ||||||||||||||||
GSI |
United Mexican States, 5.95%, 03/19/19 | 0.59% | 1.00 | % | 03/20/2019 | (1,300,000) | 24,462 | 5,532 | 19,327 | |||||||||||||||||
BBP |
Virgin Media Finance Plc, 4.88%, 02/15/22 | 2.81% | 5.00 | % | 03/20/2021 | (410,790) | 53,924 | 16,623 | 37,928 | |||||||||||||||||
BBP |
Whirlpool Corp., 7.75%, 07/15/16 | 0.68% | 1.00 | % | 03/20/2019 | (350,000) | 5,215 | 505 | 4,818 | |||||||||||||||||
|
|
|||||||||||||||||||||||||
$ | (16,871,580) | $ | 121,048 | $ | (463,619 | ) | $ | 591,882 | ||||||||||||||||||
|
|
Counterparty | Reference Obligation | Implied Credit Spread 3 |
Fixed Received Rate 6 |
Expiration Date |
Notional Amount 1,5 |
Value 4 | Unrealized Appreciation |
|||||||||||||||||||
Centrally Cleared Credit Default Swap Agreements |
|
|||||||||||||||||||||||||
Credit default swap agreements - sell protection 2 |
|
|||||||||||||||||||||||||
N/A |
CDX.NA.IG.17 | N/A | 1.00 | % | 12/20/2016 | $ | (600,000 | ) | $ | 10,990 | $ | 1,387 | ||||||||||||||
N/A |
CDX.NA.IG.18 | N/A | 1.00 | % | 06/20/2017 | (7,100,000 | ) | 143,811 | 39,090 | |||||||||||||||||
N/A |
CDX.NA.IG.19 | N/A | 1.00 | % | 12/20/2017 | (43,400,000 | ) | 924,587 | 865,012 | |||||||||||||||||
N/A |
iTraxx Europe Series 21 | N/A | 1.00 | % | 06/20/2019 | (7,668,082 | ) | 141,100 | 59,892 | |||||||||||||||||
|
|
|||||||||||||||||||||||||
$ | (58,768,082 | ) | $ | 1,220,488 | $ | 965,381 | ||||||||||||||||||||
|
|
1Notional amount is stated in USD unless otherwise noted.
2If the Fund is a seller of protection and a credit event occurs, as defined under the terms of that particular swap agreement, the Fund will either (i) pay the buyer of protection an amount equal to the notional amount of the referenced obligation and take delivery of the referenced obligation or underlying securities comprising the referenced index or (ii) pay a net settlement amount in the form of cash or securities equal to the notional amount of the swap agreement less the recovery value of the reference obligation or underlying securities comprising the referenced index.
3Implied credit spreads, represented in absolute terms, utilized in determining the value of credit default swap agreements on corporate issues and sovereign issues serve as an indicator of the current status of the payment/performance risk and represent the likelihood or risk of default for the credit derivative. The implied credit spread of a particular referenced entity reflects the cost of buying/selling protection and may include upfront payments required to be made to enter into the agreement. Wider credit spreads represent a deterioration of the referenced entitys credit soundness and a greater likelihood or risk of default or other credit event occurring as defined under the terms of the applicable agreement.
4The prices and resulting values for credit default swap agreements on credit indices serve as an indicator of the current status of the payment/performance risk and represent the likelihood or risk of default for the credit derivative. Increasing market values, in absolute terms when compared to the notional amount of the swap, represent a deterioration of the referenced entitys credit soundness and a greater likelihood or risk of default or other credit event occurring as defined under the terms of the agreement.
5The maximum potential amount the Fund could be required to pay as a seller of credit protection if a credit event occurs is limited to the total notional amount which is defined under the terms of each swap agreement.
6If the Fund is a seller of protection, the Fund receives the fixed rate.
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Investment Portfolio
June 30, 2014
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Statements of Assets and Liabilities
June 30, 2014
Assets |
||||
Investments in securities, at value (cost $180,529,635) |
$ | 188,478,795 | ||
Cash |
193,564 | |||
Foreign currency (cost $201,424) |
203,392 | |||
Receivables: |
||||
Investments sold |
8,900,220 | |||
Receivable for treasury roll transactions |
2,196,563 | |||
Forward foreign currency contracts |
47,813 | |||
Interest |
2,036,385 | |||
Variation margin on financial derivative instruments |
14,715 | |||
Deposits with brokers and counterparties |
1,031,045 | |||
Unrealized appreciation on OTC swap agreements |
787,289 | |||
OTC swap premiums paid |
136,142 | |||
Other assets |
52,907 | |||
|
|
|||
Total assets |
204,078,830 | |||
|
|
|||
Liabilities |
||||
Accrued management and investment advisory fee |
117,444 | |||
Accrued administrative fee |
73,116 | |||
Written options, at value (premiums $207,844) |
161,494 | |||
Payables: |
||||
Investment securities purchased |
8,639,181 | |||
Payable for treasury roll transactions |
2,196,417 | |||
Variation margin on financial derivative instruments |
31,867 | |||
Investment forward sales commitments, at value (cost $1,665,391) |
1,678,595 | |||
Forward foreign currency contracts |
382,062 | |||
Deposits from brokers and counterparties |
152,045 | |||
Unrealized depreciation on OTC swap agreements |
10,495 | |||
OTC swap premiums received |
540,848 | |||
Other liabilities |
55,834 | |||
|
|
|||
Total liabilities |
14,039,398 | |||
|
|
|||
Net Asset Value |
$ | 190,039,432 | ||
|
|
|||
Net assets consist of: |
||||
Paid-in capital |
202,069,475 | |||
Undistributed net investment income |
751,605 | |||
Net unrealized appreciation on investments and foreign currency related items |
9,319,054 | |||
Accumulated net realized loss |
(22,100,702 | ) | ||
|
|
|||
Net Asset Value |
$ | 190,039,432 | ||
|
|
|||
Net Asset Value per share ($190,039,432/10,365,142 shares of common stock outstanding, $.01 par value, 30,000,000 shares authorized) |
$ | 18.33 | ||
|
|
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Statements of Operations
For the Period ended June 30, 2014
Investment income |
| |||
Income: |
||||
Interest |
$ | 3,411,705 | ||
|
|
|||
Total income |
3,411,705 | |||
|
|
|||
Expenses: |
||||
Management and investment advisory fee |
231,878 | |||
Administrative fee |
220,298 | |||
Directors fees and expenses |
49,552 | |||
Legal |
41,713 | |||
Stockholder reporting |
24,748 | |||
Insurance |
23,509 | |||
Audit fees |
21,973 | |||
Stockholder services |
15,082 | |||
Interest expense |
13,601 | |||
NYSE listing fee |
12,025 | |||
Custodian fees |
5,375 | |||
Other |
4,851 | |||
|
|
|||
Total expenses |
664,605 | |||
|
|
|||
Net investment income |
2,747,100 | |||
|
|
|||
Realized and unrealized gain (loss) on investment transactions and foreign currency related items |
||||
Net realized gain (loss) from: |
||||
Investment transactions |
704,525 | |||
Futures contracts |
(204,215 | ) | ||
Swap agreements |
117,282 | |||
Written options contracts |
467,324 | |||
Foreign currency related items |
(31,563 | ) | ||
Net change in unrealized appreciation (depreciation) on: |
||||
Investments |
3,639,576 | |||
Futures contracts and centrally cleared swap agreements |
159,439 | |||
OTC swap agreements |
800,952 | |||
Written options contracts |
267,146 | |||
Foreign currency related items |
(336,821 | ) | ||
|
|
|||
Net gain on investment transactions and foreign currency related items |
5,583,645 | |||
|
|
|||
Net increase in net assets resulting from operations |
$ | 8,330,745 | ||
|
|
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Statement of Changes in Net Assets
Increase (decrease) in net assets | Six Months Ended June 30, 2014 |
Year Ended December 31, 2013 |
||||||
Operations: | ||||||||
Net investment income | $ | 2,747,100 | $ | 5,154,722 | ||||
Net realized gain (loss) on investment transactions and foreign currency related items |
1,053,353 | (71,832) | ||||||
Net change in unrealized appreciation (depreciation) on investment transactions and foreign currency related items | 4,530,292 | (5,166,818) | ||||||
|
|
|||||||
Net increase (decrease) in net assets resulting from operations |
8,330,745 | (83,928) | ||||||
Distributions to stockholders from net investment income |
(1,554,836 | ) | (6,738,806) | |||||
Distributions to stockholders from return of capital |
| (310,870) | ||||||
|
|
|||||||
Total distributions |
(1,554,836 | ) | (7,049,676) | |||||
Fund share transactions: |
||||||||
Reinvestment of distributions |
58,230 | 290,146 | ||||||
Cost of shares repurchased |
(129,894 | ) | (397,989) | |||||
|
|
|||||||
Net decrease in net assets from fund share transactions |
(71,664 | ) | (107,843) | |||||
|
|
|||||||
Net increase (decrease) in net assets |
6,704,245 | (7,241,447) | ||||||
Net assets at beginning of period |
183,335,187 | 190,576,634 | ||||||
|
|
|||||||
Net assets at end of period (including undistributed (excess of distributions over) net investment income of $751,605 and $(440,659), respectively) | $ | 190,039,432 | $ | 183,335,187 | ||||
|
|
|||||||
Other information |
||||||||
Shares outstanding at beginning of period |
10,369,576 | 10,375,675 | ||||||
Shares issued to stockholders in reinvestment of distributions |
3,566 | 17,901 | ||||||
Shares repurchased |
(8,000 | ) | (24,000) | |||||
|
|
|||||||
Net decrease in fund shares outstanding |
(4,434 | ) | (6,099) | |||||
|
|
|||||||
Shares outstanding at end of period |
10,365,142 | 10,369,576 | ||||||
|
|
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Financial Highlights
Years Ended December 31, | 2014e | 2013 | 2012 | 2011 | 2010c | 2009 | ||||||||||||||||||
Selected Per Share Data |
|
|||||||||||||||||||||||
Net asset value, beginning of period |
$17.68 | $18.37 | $17.11 | $17.12 | $16.42 | $15.13 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Income from investment operations: |
||||||||||||||||||||||||
Income a |
0.32 | 0.63 | 0.73 | 0.86 | 0.86 | 0.85 | ||||||||||||||||||
Operating expenses a |
(0.06) | (0.13) | (0.13) | (0.12) | (0.14) | (0.12) | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Net investment income a |
0.26 | 0.50 | 0.60 | 0.74 | 0.72 | 0.73 | ||||||||||||||||||
Net realized and unrealized gain (loss) on investment transactions |
0.54 | (0.51) | 1.51 | (0.04) | 0.71 | 1.33 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total from investment operations |
0.80 | (0.01) | 2.11 | 0.70 | 1.43 | 2.06 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Less distributions from: |
||||||||||||||||||||||||
Net investment income |
(0.15) | (0.68)g | (0.85) | (0.71) | (0.73) | (0.77) | ||||||||||||||||||
Net asset value, end of period |
$18.33 | $17.68 | $18.37 | $17.11 | $17.12 | $16.42 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Per share market value, end of period |
$16.68 | $15.54 | $16.90 | $15.43 | $15.78 | $14.68 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Closing price range on New York Stock Exchange for each share of Common Stock outstanding: |
||||||||||||||||||||||||
High ($) |
16.70 | 17.76 | 17.30 | 16.03 | 16.78 | 15.10 | ||||||||||||||||||
Low ($) |
15.54 | 15.32 | 15.38 | 15.05 | 14.67 | 13.19 | ||||||||||||||||||
Total Return |
||||||||||||||||||||||||
Based on market value (%) b |
8.32 f | (4.12) | 15.22 | 2.28 | 12.50 | 12.04 | ||||||||||||||||||
Based on net asset value (%) b |
4.63 f | 0.35 | 12.94 | 4.54 | 9.12 | 14.47 | ||||||||||||||||||
Ratio to Average Net Assets and Supplemental Data |
||||||||||||||||||||||||
Net assets, end of year ($ millions) |
190 | 183 | 191 | 177 | 178 | 170 | ||||||||||||||||||
Ratio of net expenses (%) |
0.72 d | 0.70 | 0.72 | 0.71 | 0.82 | 0.76 | ||||||||||||||||||
Ratio of net investment income (%) |
2.96 d | 2.74 | 3.35 | 4.24 | 4.28 | 4.64 | ||||||||||||||||||
Portfolio turnover rate (%) |
61 f | 219 | 246 | 49 | 132 | 175 |
a | Based on average shares outstanding during the period. |
b | Total return based on net asset value reflects changes in the Funds net asset value during the year. Total return based on market value reflects changes in market price. Each figure includes reinvestment of dividends. These figures will differ depending upon the level of any discount or premium between market price and net asset value. |
c | The Fund changed investment adviser effective March 15, 2010. |
d | Annualized. |
e | For the six months ended June 30, 2014. |
f | Not annualized. |
g | Includes a return of capital distribution of (0.03) per share. |
The accompanying notes are an integral part of the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
A. Significant Accounting Policies
Montgomery Street Income Securities, Inc. (the Fund) is registered under the Investment Company Act of 1940, as amended (the 1940 Act), as a closed-end, diversified management investment company. Pacific Investment Management Company LLC (PIMCO or Adviser) serves as the investment adviser to the Fund.
The Fund is an investment company and follows accounting and reporting guidance under Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 946, Financial Services-Investment Companies. The Funds financial statements are prepared in accordance with U.S. generally accepted accounting principles (GAAP), which requires the use of management estimates. Actual results could differ from those estimates. The policies described below are followed consistently by the Fund in the preparation of its financial statements.
Security Valuation. Under the Funds valuation policy and procedures, the Funds Board of Directors (the Board) has delegated the daily operational oversight of the securities valuation function to Jackson Fund Services (JFS or Administrator), a division of Jackson National Asset Management, LLC. The Board has delegated to the Pricing Committee of JFS (Pricing Committee), the authority to approve determinations of fair valuations of securities for which market quotations are not readily available as well as to supervise JFS in the performance of its responsibilities pursuant to the valuation policy and procedures. The Pricing Committee consists of the Funds Chief Executive Officer, Chief Financial Officer and Chief Compliance Officer. For those securities fair valued under procedures adopted by the Board, the Pricing Committee reviews and affirms the reasonableness of the fair valuation determinations after considering all relevant information that is reasonably available. The Pricing Committees fair valuation determinations are subject to review by the Chair of the Funds Valuation Committee on a monthly basis and the Board at its next regularly scheduled meeting covering the calendar quarter in which the fair valuation was determined.
Investments are stated at value determined as of the close of regular trading (generally, 4:00 PM Eastern Time) on the New York Stock Exchange (NYSE) on each day the exchange is open for trading. Debt securities are valued by independent pricing services approved by, or at the direction of, the Board. If the pricing services are unable to provide valuations, debt securities are valued at the most recent bid quotation for a long position and ask quotation for a short position or an evaluated price, as applicable, obtained from a broker/dealer or widely used quotation system. Fixed income securities with a remaining maturity of sixty days or less maturing at par, are valued at amortized cost, unless it is determined that such price does not approximate market value. Forward foreign currency contracts are generally valued at the forward foreign currency exchange rate as of the close of the NYSE. Futures contracts traded on an exchange are valued at the exchanges settlement price which reflects fair value. If the settlement price is not available, exchange traded futures are valued at the last sales price as of the close of business on the local exchange. Options traded on an exchange are valued at the last traded price as of the close of business on the local exchange. If the last trade is determined not to be representative of fair value, exchange traded options are valued at the last bid. Centrally cleared swap agreements, listed on a multilateral or trade facility platform, such as a registered exchange, are valued by the respective exchange. The exchange determines a daily settlement price via pricing models which use, as appropriate, its members actionable levels across complete term structures along with information obtained from external third party price providers. Over the counter (OTC) derivatives, including options and swap agreements, are generally valued by approved pricing services. If the pricing services are unable to provide valuations, OTC derivatives are valued at the most recent bid quotation or evaluated price, as applicable, obtained from a broker/dealer or by pricing models using observable inputs. Pricing services utilized to value debt and derivative instruments may use various pricing techniques which take into account appropriate factors such as yield, credit quality, coupon rate, maturity, type of issue, trading characteristics, call features, credit ratings, broker quotes and other relevant data.
Market quotations may not be readily available for certain debt and derivative investments. If market quotations are not readily available or if it is determined that a quotation of an investment does not represent market value, then the investment is valued at a fair value as determined in good faith using procedures approved by the Board. Although there can be no assurance, in general, the fair value of a security is the amount the owner of such security might reasonably expect to receive upon its current sale. Situations that may require a security to be fair valued may include instances where a security is thinly traded or restricted as to resale. In addition, securities may be fair valued based on the occurrence of a significant event. Significant events may be specific to
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
a particular issuer, such as mergers, restructurings or defaults. Alternatively, significant events may affect an entire market, such as natural disasters or government actions. Securities are fair valued based on observable and unobservable inputs including the Administrators own assumptions in determining fair value. Under the procedures approved by the Board, the Administrator may utilize independent pricing services or other sources, including the Funds Adviser, to assist in determining the fair value of an investment. Factors considered to determine fair value include the correlation with price movement of similar securities in the same or other markets; the type, cost and investment characteristics of the security; the business and financial condition of the issuer; and trading or other market data. The value of an investment for purposes of calculating the Funds net asset value (NAV) can differ depending on the source and method used to determine the value.
Security Transactions, Investment Income and Expenses. Investment transactions are reported on trade date for financial reporting purposes. Interest income, including level-yield amortization of discounts and premiums, is accrued daily. The Fund may place a debt obligation on non-accrual status and reduce related interest income by ceasing accruals and writing off interest receivable when the collection of all or a portion of interest has become doubtful. A debt obligation is removed from non-accrual status when the issuer resumes interest payments or when collectability of interest is reasonably assured. Dividend income is recorded on the ex-dividend date. Expenses are recorded on an accrual basis.
Federal Income Taxes. The Fund intends to qualify as a regulated investment company and to distribute substantially all net investment income and net capital gains, if any, to its stockholders and otherwise comply with Subchapter M of the Internal Revenue Code applicable to regulated investment companies. Therefore, no federal income tax provision is required.
Distribution of Income and Capital Gains. The amount and timing of distributions are determined in accordance with federal income tax regulations, which may differ from GAAP. Distributions of net investment income are paid quarterly. Net realized gains from investment transactions will be distributed to stockholders at least annually to the extent they exceed available capital loss carryforwards. The Fund uses the specific identification method for determining realized gain or loss on investments sold for both financial and federal income tax reporting purposes.
Contingencies. In the normal course of business, the Fund may enter into contracts with service providers that contain general indemnification clauses. The Funds maximum exposure under these arrangements is unknown, as this would involve future claims that may be made against the Fund that have not yet been made. However, based on experience to date, the Fund expects any risk of loss to be remote.
Recent Accounting Pronouncements - In June 2014, Financial Accounting Standards Board (FASB) released Accounting Standards Update (ASU) 2014-11 Repurchase-to-Maturity Transactions, Repurchase Financings and Disclosures. The amendments in this ASU change the accounting for repurchase-to-maturity transactions and linked repurchase financings to secured borrowing accounting, which is consistent with the accounting for other repurchase agreements. The amendments also require two new disclosures. The first disclosure requires an entity to disclose information on transfers accounted for as sales in transactions that are economically similar to repurchase agreements. The second disclosure provides increased transparency about the types of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings. ASU 2014-11 is effective for the first interim and annual period beginning on or after December 15, 2014. Management is currently evaluating the impact ASU 2014-11 will have on the Funds financial statements.
B. FASB ASC Topic 820, Fair Value Measurements and Disclosure
This standard establishes a single authoritative definition of fair value, sets out a framework for measuring fair value and requires additional disclosures about fair value measurements. Various inputs are used in determining the value of the Funds investments under FASB ASC Topic 820 guidance. The inputs are summarized into three broad categories.
Level 1 includes valuations based on unadjusted quoted prices of identical securities in active markets, including valuations for securities listed on an exchange.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Level 2 includes valuations determined from significant direct or indirect observable inputs. Direct observable inputs include broker quotes, third party prices, closing prices of similar securities in active markets, closing prices for identical or similar securities in non-active markets. Indirect significant observable inputs include factors such as interest rates, yield curves, prepayment speeds or credit ratings. Level 2 generally includes valuations of vendor evaluated debt instruments, broker quotes in active markets, securities valued at amortized cost, centrally cleared swap agreements, modeled OTC derivatives contracts and swap agreements valued by pricing services.
Level 3 includes valuations determined from significant unobservable inputs including the Administrators own assumptions in determining the fair value of the investment. Inputs used to determine the fair value of Level 3 securities include security specific inputs such as: credit quality, credit rating spreads, issuer news, trading characteristics, call features or maturity; or industry specific inputs such as trading activity of similar markets or securities, changes in the securitys underlying index or comparable securities models. Level 3 valuations include certain single source quotes received from brokers (either directly or through a vendor), securities restricted to resale due to market events, newly issued or investments for which reliable quotes are not available.
To assess the continuing appropriateness of security valuation, the Administrator regularly compares prior day prices with current day prices, transaction prices and alternative vendor prices. When the comparison results exceed pre-defined thresholds, the Administrator challenges the prices exceeding tolerance levels with the pricing service or broker. To verify Level 3 unobservable inputs, the Administrator uses a variety of techniques as appropriate to substantiate these valuation approaches including a regular review of key inputs and assumptions, transaction back-testing or disposition analysis and review of related market activity.
The inputs or methodology used for valuing securities are not necessarily an indication of the risk associated with investing in those securities.
The following table summarizes the Funds investments in securities and other financial instruments as of June 30, 2014 by valuation level.
Assets - Investments in Securities | ||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | |||||||||||||
Corporate Bonds |
$ | | $ | 112,686,595 | $ | | $ | 112,686,595 | ||||||||
Non-U.S. Government Agency ABS |
| 10,254,817 | | 10,254,817 | ||||||||||||
Government and Agency Obligations |
| 56,604,633 | | 56,604,633 | ||||||||||||
Purchased Options |
| 129,985 | | 129,985 | ||||||||||||
Short Term Investments |
| 8,802,765 | | 8,802,765 | ||||||||||||
Fund Total |
$ | | $ | 188,478,795 | $ | | $ | 188,478,795 | ||||||||
Liabilities - Investments in Securities | ||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | |||||||||||||
Government and Agency Obligations |
$ | | $ | (1,678,595 | ) | $ | | $ | (1,678,595 | ) | ||||||
Fund Total |
$ | | $ | (1,678,595 | ) | $ | | $ | (1,678,595 | ) | ||||||
Assets - Investments in Other Financial Instruments* | ||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | |||||||||||||
Exchange Traded Futures Options |
$ | 59,896 | $ | | $ | | $ | 59,896 | ||||||||
Open Futures Contracts |
56,588 | | | 56,588 | ||||||||||||
Open Forward Foreign Currency Contracts |
| 47,813 | | 47,813 | ||||||||||||
OTC Interest Rate Swap Agreements |
| 190,888 | | 190,888 | ||||||||||||
Centrally Cleared Interest Rate Swap Agreements |
| 90,749 | | 90,749 | ||||||||||||
OTC Credit Default Swap Agreements |
| 596,401 | | 596,401 | ||||||||||||
Centrally Cleared Credit Default Swap Agreements |
| 965,381 | | 965,381 | ||||||||||||
Fund Total |
$ | 116,484 | $ | 1,891,232 | $ | | $ | 2,007,716 |
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Liabilities - Investments in Other Financial Instruments* | ||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | |||||||||||||
Written Options |
$ | | $ | (161,494 | ) | $ | | $ | (161,494 | ) | ||||||
Exchange Traded Futures Options |
(31,851 | ) | | | (31,851 | ) | ||||||||||
Open Forward Foreign Currency Contracts |
| (382,062 | ) | | (382,062 | ) | ||||||||||
OTC Interest Rate Swap Agreements |
| (5,976 | ) | | (5,976 | ) | ||||||||||
Centrally Cleared Interest Rate Swap Agreements |
| (246,916 | ) | | (246,916 | ) | ||||||||||
OTC Credit Default Swap Agreements |
| (4,519 | ) | | (4,519 | ) | ||||||||||
Fund Total |
$ | (31,851 | ) | $ | (800,967 | ) | $ | | $ | (832,818 | ) |
*Investments in other financial instruments are derivative instruments not reflected in the Investment Portfolio and include written options, exchange traded futures options, futures contracts, forward foreign currency contracts, and swap agreements. All derivatives are reflected at the unrealized appreciation/(depreciation) on the instrument, except for written options which are reflected at value.
The Fund recognizes transfers between levels as of the beginning of the period. There were no transfers into or out of Level 1, 2 or 3 during the period. There were no significant Level 3 valuations for which significant unobservable valuation inputs were developed at June 30, 2014.
C. Investments
Forward Sales Commitments. The Fund may purchase or sell forward sales commitments. A forward sales commitment involves the Fund entering into a contract to purchase or sell securities for a fixed price at a future date beyond the customary settlement period. The purchase of a forward sales commitment involves the risk of loss if the value of the security to be purchased declines before the settlement date while the sale of a forward sales commitment involves the risk that the value of the securities to be sold may increase before the settlement date. The Fund may dispose of or renegotiate forward sales commitments after they are entered into, and may close these positions before they are delivered, which may result in a realized gain or loss.
When-Issued/Delayed-Delivery Securities. The Fund may purchase securities with delivery or payment to occur at a date beyond the normal settlement period. At the time the Fund enters into a commitment to purchase a security, the transaction is recorded and the value of the security is reflected in the NAV. The price of such security and the date when the security will be delivered and paid for are fixed at the time the transaction is negotiated. The value of the security may vary with market fluctuations. No interest accrues to the Fund until settlement of the trade. Certain risks may arise upon entering into when-issued or delayed-delivery securities from the potential inability of counterparties to meet the terms of their contracts or if the issuer does not issue the securities due to political, economic or other factors. Additionally, losses may arise due to changes in the value of the underlying securities prior to settlement date, if the counterparty does not perform under the contracts terms, or if the issuer does not issue the securities due to political, economic or other factors.
Mortgage-Backed Dollar and Treasury Roll Transactions. The Fund may sell mortgage-backed or treasury securities and simultaneously contract to repurchase securities at a future date at an agreed upon price. The Fund may only enter into covered rolls. A covered roll is a type of dollar roll for which the Fund maintains offsetting positions in cash, U.S. Government securities, or other liquid assets which mature on or before the forward repurchase settlement date of the dollar roll transaction. During the period between the sale and repurchase, the Fund forgoes interest and principal paid on the mortgage-backed securities. The Fund is compensated by the interest earned on the cash proceeds of the initial sale and from negotiated fees paid by brokers offered as an inducement to the Fund to roll over its purchase commitments. The Fund may dispose of covered roll securities after they are entered into and close these positions before their maturity, which may result in a realized gain or loss.
In a mortgage-backed or treasury securities roll transaction, if the repurchased security is determined to be similar, but not substantially the same, the transaction is accounted for as a purchase and sale. Any gains, losses and any income or fees earned are recorded to realized gain or loss. If the repurchased security is determined to be substantially the same, the transaction is accounted for as a secured borrowing, rather than as a purchase and sales transaction. Any income or fees earned are recorded to investment income and financing costs associated with the transaction are recorded to interest expense.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Dollar roll transactions involve the risk that the market value of the securities sold by the Fund may decline below the repurchase price of those securities which the Fund is obligated to purchase or that the return earned by the Fund with the proceeds of a dollar roll may not exceed transaction costs.
For the 26 days treasury roll securities were outstanding, the average daily balance and the weighted average interest rate for treasury roll securities during the period ended June 30, 2014 were $7,000,777 and 0.01%, respectively.
Reverse Repurchase Agreements. The Fund may enter into reverse repurchase agreements. In a reverse repurchase agreement, a Fund delivers a security to a counterparty in exchange for cash, with a simultaneous agreement to repurchase the same or substantially the same security at an agreed upon price and date. Cash received in exchange for securities delivered plus accrued interest to be paid by the Fund are reflected as liabilities on the Statement of Assets and Liabilities. Interest paid is recorded as a component of interest expense on the Statement of Operations. The Fund receives principal and interest payments, if any, made on the security delivered to the counterparty during the term of the agreement. In periods of increased demand of the security, the Fund may receive a fee for use of the security by the counterparty, which may result in interest income to the Fund. A reverse repurchase agreement involves the risk that the value of the security delivered by the Fund may decline below the repurchase price of the security. The Fund will segregate assets determined to be liquid at the Custodian or otherwise cover its obligations under reverse repurchase agreements. The Funds net exposure to the counterparty is determined by the amount of any excess or shortfall in collateral compared to the value of the reverse repurchase agreement.
For the 77 days reverse repurchase agreements were outstanding, the average daily balance and the weighted average interest rate for reverse repurchase agreements during the period ended June 30, 2014 were $949,503 and 3.38%, respectively. The Fund did not hold any reverse repurchase agreements at June 30, 2014.
Repurchase Agreements. The Fund may invest in repurchase agreements. In a repurchase agreement, the Fund takes possession of an underlying debt obligation (collateral) subject to an obligation of the seller to repurchase, and the Fund to resell, the obligation at an agreed upon price and date. Earnings on collateral and compensation to the seller are based on agreed upon rates between the seller and the Fund. Interest earned on repurchase agreements is recorded as interest income to the Fund. The underlying securities used as collateral for repurchase agreements may be held in safekeeping by the Funds Custodian or designated sub custodians under triparty repurchase agreements or delivered to the counterparty. When a repurchase agreement is entered into, the Fund typically receives securities with a value that approximates or exceeds the repurchase price, including any accrued interest earned on the repurchase agreement. The value of such securities will be marked to market daily, and cash or additional securities will be exchanged between the parties with a frequency and in amounts prescribed in the repurchase agreement.
Securities purchased under repurchase agreements are reflected as an asset on the Statement of Assets and Liabilities. The value of repurchase agreements and collateral pledged or received by a counterparty are disclosed in the Investment Portfolio. The Funds net exposure to the counterparty is determined by the amount of any excess or shortfall in collateral compared to the value of the repurchase agreement. In the event of a default by the counterparty, realization of the collateral proceeds could be delayed, during which time the value of such collateral may decline.
Illiquid Investments. Illiquid securities and other investments are those that may not be sold or disposed of in the ordinary course of business within seven days at approximately the price used to determine the Funds NAV per share. The Fund may not be able to sell illiquid investments when the Adviser considers it desirable to do so or may have to sell such investments at a price that is lower than the price that could be obtained if the investments were liquid. A sale of illiquid investments may require more time and may result in higher dealer discounts and other selling expenses than would the sale of those that are liquid. Illiquid investments also may be more difficult to value, due to the unavailability of reliable market quotations for such investments, and investment in them may have an adverse impact on the NAV.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Restricted Securities. The Fund may own certain investment securities that, which are unregistered and thus restricted as to resale. Unregistered securities may be illiquid because there is no readily available market for sale of the securities. Where future dispositions of the securities require registration under the 1933 Act, as amended, the Fund has the right to include those securities in such registration generally without costs to the Fund. The Fund normally has no right to require registration of unregistered securities.
U.S. Government Agencies or Government Sponsored Enterprises. The Fund may invest in U.S. government agencies or government sponsored enterprises. U.S. government securities are obligations of, and in certain cases, guaranteed by, the U.S. government, its agencies or instrumentalities. Some U.S. government securities, such as Treasury bills, notes and bonds, and securities guaranteed by the Government National Mortgage Association, are supported by the full faith and credit of the U.S. government; others, such as those of the Federal Home Loan Bank, are supported by the right of the issuer to borrow from the U.S. Department of the Treasury (U.S. Treasury); others, such as those of the Federal National Mortgage Association (FNMA) are supported by the discretionary authority of the U.S. government to purchase the agencys obligations. U.S. government securities may include zero coupon securities, which do not distribute interest on a current basis and tend to be subject to greater risk than interest-paying securities of similar maturities.
Government-related guarantors (i.e., guarantors that are not backed by the full faith and credit of the U.S. government) include FNMA and the Federal Home Loan Mortgage Corporation (FHLMC). FNMA purchases conventional (i.e., not insured or guaranteed by any government agency) residential mortgages from a list of approved seller/servicers, which include state and federally chartered savings and loan associations, mutual savings banks, commercial banks and credit unions and mortgage bankers. Pass-through securities issued by FNMA are guaranteed as to timely payment of principal and interest by FNMA, but are not backed by the full faith and credit of the U.S. government. FHLMC issues Participation Certificates (PCs), which are pass-through securities, each representing an undivided interest in a pool of residential mortgages. FHLMC guarantees the timely payment of interest and ultimate collection of principal, but PCs are not backed by the full faith and credit of the U.S. government.
FNMA and FHMLC were placed into conservatorship by the Federal Housing Finance Agency (FHFA). As the conservator, FHFA succeeded to all rights, titles, powers and privileges of FNMA and FHLMC and of any stockholder, officer or director of FNMA and FHLMC with respect to FNMA and FHLMC and each enterprises assets. In connection with the conservatorship, the U.S. Treasury entered into a Senior Preferred Stock Purchase Agreement with FNMA and FHLMC. This agreement contains various covenants that severely limit each enterprises operations. In exchange for entering into these agreements, the U.S. Treasury received senior preferred stock in each enterprise and warrants to purchase each enterprises common stock. The U.S. Treasury announced the creation of a new secured lending facility, which is available to FNMA and FHLMC as a liquidity backstop and the creation of a temporary program to purchase mortgage-backed securities issued by FNMA and FHLMC. FNMA and FHLMC are continuing to operate as going concerns while in conservatorship and each remains liable for all of its obligations, including its guaranty obligations, associated with its mortgage-backed securities.
D. Risks
Interest Rate Risk. Interest rate risk is the risk that fixed income securities will decline in value because of changes in interest rates. As nominal interest rates rise, the value of certain fixed income securities held by the Fund is likely to decrease. A nominal interest rate can be described as the sum of a real interest rate and an expected inflation rate. Fixed income securities with longer durations tend to be more sensitive to changes in interest rates, usually making them more volatile than securities with shorter durations.
Inflation-indexed bonds, including Treasury Inflation-Protected Securities, decline in value when real interest rates rise. In certain interest rate environments, such as when real interest rates are rising faster than nominal interest rates, inflation-indexed bonds may experience greater losses than other fixed income securities with similar durations.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Variable and floating rate securities generally are less sensitive to interest rate changes but may decline in value if their interest rates do not rise as much, or as quickly, as interest rates in general. Conversely, variable and floating rate securities will not generally increase in value if interest rates decline. Inverse floating rate securities may decrease in value if interest rates increase. Inverse floating rate securities may also exhibit greater price volatility than a fixed rate obligation with similar credit quality. When the Fund holds variable or floating rate securities, a decrease (or, in the case of inverse floating rate securities, an increase) in market interest rates will adversely affect the income received from such securities and the net asset value of the Funds shares.
Credit Risk. The Fund could lose money if the issuer or guarantor of a fixed income security, or the counterparty to a derivatives contract or repurchase agreement, is unable or unwilling to make timely principal and/or interest payments, or to otherwise honor its obligations. Securities are subject to varying degrees of credit risk, which are often reflected in credit ratings. Municipal bonds are subject to specific risks that litigation, legislation or other political events, local business or economic conditions, or the bankruptcy of the issuer could have a significant effect on an issuers ability to make payments of principal and/or interest.
High Yield Risk. Investments in high yield securities and unrated securities of similar credit quality (commonly known as junk bonds) may be subject to greater levels of credit and liquidity risk than investments in higher rated securities. These securities are considered predominately speculative with respect to the issuers continuing ability to make principal and interest payments. An economic downturn or period of rising interest rates could adversely affect the market for these securities and reduce the Funds ability to sell these securities (liquidity risk). If the issuer of a security is in default with respect to interest or principal payments, the Fund may lose its entire investment.
Market Risk. The market price of securities owned by the Fund may go up or down, sometimes rapidly or unpredictably. The value of a security may decline due to general market conditions that are not specifically related to a particular company, such as real or perceived adverse economic conditions, changes in the general outlook for corporate earnings, changes in interest or currency rates or adverse investor sentiment generally. It may also decline due to factors which affect a particular industry or industries, such as labor shortages or increased production costs and competitive conditions within an industry. During a general downturn in the securities markets, multiple asset classes may decline in value simultaneously. Equity securities, like common stocks and preferred stocks, generally have greater price volatility than fixed income securities.
Issuer Risk. The value of a security may decline for a number of reasons that directly relate to the issuer, such as management performance, financial leverage and reduced demand for the issuers goods or services.
Liquidity Risk. Liquidity risk exists when particular investments are difficult to purchase or sell. The Funds investments in illiquid securities may reduce the returns of the Fund because it may be unable to sell the illiquid securities at an advantageous time or price. Additionally, the markets for certain investments may become illiquid under adverse market or economic conditions independent of any specific adverse changes in the condition of a particular issuer. In such cases, the Fund, due to the difficulty in purchasing and selling illiquid securities and limitations on the Funds investments in such securities, may be unable to achieve its desired level of exposure to a certain sector. Foreign (non-U.S.) securities, certain derivatives and securities with substantial market and/or credit risk will tend to have greater exposure to liquidity risk.
Derivatives Risk. Derivatives are financial contracts whose value depends on, or is derived from, the value of an underlying asset, reference rate or index. When investing in a derivative instrument, the Fund could lose more than the principal amount invested. The Fund typically uses derivatives as a substitute for taking a position in the underlying asset or as part of a strategy designed to reduce exposure to other risks, such as interest rate or currency risk. The Fund may also use derivatives for leverage, in which case their use would involve leveraging risk. For example, a small investment in a derivative instrument may have a significant impact on the Funds exposure to interest rates, currency exchange rates or other investments. As a result a relatively small price movement in a derivative instrument may cause an immediate and substantial loss or gain. The Fund may engage in such transactions regardless of whether the Fund owns the asset, instrument or components of the index underlying the derivative instrument. The Fund may invest a portion of its assets in these types of instruments, which could cause the Funds investment exposure to exceed the value of its portfolio securities and its investment performance could be affected by securities it does not own. The Funds use of derivative instruments involves risks different from, or possibly greater than, the risks associated with investing directly in
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
securities and other traditional investments. Derivatives are subject to a number of risks described elsewhere in this section, such as liquidity risk, interest rate risk, market risk, credit risk and management risk. They also involve the risk of mispricing or improper valuation and the risk that changes in the value of the derivative may not correlate perfectly with the underlying asset, rate or index. The Funds Adviser must choose the correct derivatives exposure versus the underlying assets to be hedged or the income to be generated, in order to realize the desired results from the investment. The Funds Adviser must correctly predict price, credit or other applicable movements, during the life of a derivative, with respect to the underlying asset in order to realize the desired results from the investment. The Fund could experience losses if its derivatives were poorly correlated with its other investments, or if the Fund were unable to liquidate its position because of an illiquid secondary market. The market for many derivatives is, or suddenly can become, illiquid. Changes in liquidity may result in significant, rapid and unpredictable changes in the prices for derivatives. The value of derivatives may fluctuate more rapidly than other investments, which may increase the volatility of the Fund, depending on the nature and extent of the derivatives in the Funds portfolio. If the Funds Adviser uses derivatives in attempting to manage or hedge the overall risk of the portfolio, the strategy might not be successful. To the extent that the Fund is unable to close out a position because of market illiquidity or counterparty default, the Fund may not be able to prevent further losses of value in its derivatives holdings and the Funds liquidity may be impaired to the extent that it has a substantial portion of its otherwise liquid assets marked as segregated to cover its obligations under such derivative instruments. The Fund may also be required to take or make delivery of an underlying instrument that the manager would otherwise have attempted to avoid. Also, suitable derivative transactions may not be available in all circumstances, and there can be no assurance that the Fund will engage in these transactions to reduce exposure to other risks when that would be beneficial. The use of derivative strategies may also have a tax impact on the Fund. The timing and character of income, gains or losses from these strategies could impair the ability of the investment manager to utilize derivatives when it wishes to do so.
Mortgage-Related and Other Asset-Backed Securities Risk. Mortgage-related and other asset-backed securities are subject to certain additional risks. Generally, rising interest rates tend to extend the duration of fixed rate mortgage-related securities, making them more sensitive to changes in interest rates. This is known as extension risk. In addition, adjustable and fixed rate mortgage-related securities are subject to prepayment risk. When interest rates decline, borrowers may pay off their mortgages sooner than expected. This can reduce the returns of the Fund because the Fund may have to reinvest that money at the lower prevailing interest rates. The Funds investments in other asset-backed securities are subject to risks similar to those associated with mortgage-related securities, as well as additional risks associated with the nature and servicing of those assets.
Foreign (Non-U.S.) Investment Risk. Investments in foreign (non-U.S.) securities may experience more rapid and extreme changes in value than investments in securities of U.S. companies. The securities markets of many foreign countries are relatively small, with a limited number of companies representing a small number of industries. Additionally, issuers of foreign securities are usually not subject to the same degree of regulation as U.S. issuers. Reporting, accounting and auditing standards of foreign countries differ, in some cases significantly, from U.S. standards. Also, nationalization, expropriation or confiscatory taxation, currency blockage, political changes or diplomatic developments could adversely affect the Funds investments in a foreign country. In the event of nationalization, expropriation or other confiscatory taxation, the Fund could lose its entire investment in foreign securities. Adverse conditions in a certain region can adversely affect securities of other countries whose economies appear to be unrelated. If the Fund invests a significant portion of its assets in a specific geographic region, the Fund will generally have more exposure to regional economic risks associated with foreign investments in that region.
Emerging Markets Risk. Foreign investment risk may be particularly high to the extent that the Fund invests in emerging market securities that are economically tied to countries with developing economies. These securities may present market, credit, currency, liquidity, legal, political and other risks different from, or greater than, the risks of investing in developed foreign countries.
Currency Risk. To the extent that the Fund invests directly in foreign (non-U.S.) currencies, in securities that are denominated in foreign currencies, or in derivatives that provide exposure to foreign currencies, it will be subject to the risk that those currencies will decline in value relative to the U.S. dollar, or, in the case of hedging positions, that the U.S. dollar will decline in value relative to the currency being hedged.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Currency rates in foreign countries may fluctuate significantly over short periods of time for a number of reasons, including changes in interest rates, intervention (or the failure to intervene) by U.S. or foreign governments, central banks or supranational entities such as the International Monetary Fund, or the imposition of currency controls or other political developments in the United States or abroad. As a result, the Funds investments in foreign currencies or instruments with exposure to foreign currencies may reduce the returns of the Fund.
Leveraging Risk. Certain transactions may give rise to a form of leverage. Such transactions include, among others, reverse repurchase agreements and when-issued, delayed delivery or forward commitment transactions. The use of derivatives may also create leveraging risk. To mitigate leveraging risk, the Investment Adviser will segregate or earmark liquid assets or otherwise cover the transactions that may give rise to such risk. The Fund also may be exposed to leveraging risk by borrowing money for investment purposes. Leveraging may cause the Fund to liquidate portfolio positions to satisfy its obligations or to meet segregation requirements when it may not be advantageous to do so. Leveraging, including borrowing, may cause the Fund to be more volatile than if the Fund had not been leveraged. This is because leveraging tends to exaggerate the effect of any increase or decrease in the value of the Funds portfolio securities.
Smaller Company Risk. The general risks associated with fixed income securities are particularly pronounced for securities issued by companies with smaller market capitalizations. These companies may have limited product lines, markets or financial resources or they may depend on a few key employees. As a result, they may be subject to greater levels of credit, market and issuer risk. Securities of smaller companies may trade less frequently and in lesser volumes than more widely held securities and their values may fluctuate more sharply than other securities. Companies with medium-sized market capitalizations may have risks similar to those of smaller companies.
Management Risk. The Fund is subject to management risk because it is an actively managed investment portfolio. The Investment Adviser will apply investment techniques and risk analyses in making investment decisions for the Fund, but there can be no guarantee that these decisions will produce the desired results. Additionally, legislative, regulatory, or tax developments may affect the investment techniques available to the Investment Adviser and may also adversely affect the ability of the Fund to achieve its investment objectives.
Municipal Project-Specific Risk. The Fund may be more sensitive to adverse economic, business or political developments if it invests a substantial portion of its assets in the municipal bonds of similar projects (such as those relating to education, health care, housing, transportation, and utilities), in industrial development bonds, or in bonds from issuers in a single state.
Short Sale Risk. The Funds short sales, if any, are subject to special risks. A short sale involves the sale by the Fund of a security that it does not own with the hope of purchasing the same security at a later date at a lower price. The Fund may also enter into a short position through a forward commitment or a short derivative position through a futures contract or swap agreement. If the price of the security or derivative has increased during this time, then the Fund will incur a loss equal to the increase in price from the time that the short sale was entered into plus any premiums and interest paid to the third party. Therefore, short sales involve the risk that losses may be exaggerated, potentially losing more money than the actual cost of the investment. Also, there is the risk that the third party to the short sale may fail to honor its contract terms, causing a loss to the Fund.
Government, Legislative and Regulatory Risk. Instability in the financial markets can lead to a number of unprecedented actions that may support certain financial institutions and segments of the financial markets under extreme volatility, and in some cases a lack of liquidity. Federal, state, and other governments, their regulatory agencies, or self regulatory organizations may take actions that affect the regulation of the instruments in which the Fund invests, or the issuers of such instruments, in ways that are unforeseeable. Legislation or regulation may also change the way in which the Funds themselves are regulated. Such legislation or regulation could limit or preclude the Funds ability to achieve its investment objectives. Governments or their agencies may also acquire distressed assets from financial institutions and acquire ownership interests in those institutions. The implications of government ownership and disposition of these assets are unclear, and such a program may have positive or negative effects on the liquidity, valuation and performance of the Funds portfolio holdings.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
E. Master Netting Agreements, Customer Account Agreements and Collateral
Under various agreements, certain investment transactions require collateral to be exchanged by the Fund and a counterparty or segregated at the custodian. U.S. Treasury Bills and cash (U.S. dollar) are generally the preferred forms of collateral, although other forms of high quality or sovereign securities may be used. Securities held by the Fund that are used as collateral are identified as such within the Investment Portfolio. Collateral for OTC financial derivative transactions paid to or received from counterparties is included in receivable from/payable for deposits with/from brokers and counterparties in the Statement of Assets and Liabilities.
Master Netting Agreements (Master Agreements). The Fund is subject to various Master Agreements, which govern the terms of certain transactions and mitigate the counterparty risk associated with relevant transactions by specifying credit protection mechanisms and providing standardization that improves legal certainty. Since different types of financial transactions have different mechanics and are sometimes traded out of different legal entities of a particular counterparty organization, each type of transaction may be covered by a different Master Agreement, resulting in the need for multiple agreements with a single counterparty. The Fund may net exposure and collateralize multiple transaction types governed by the same Master Agreement with the same counterparty and may close out and net its total exposure to a counterparty in the event of a default and/or termination event with respect to all the transactions governed under a single agreement with a counterparty. Each Master Agreement defines whether the Fund is contractually able to net settle daily payments. Additionally, certain circumstances, such as laws of a particular jurisdiction or settlement of amounts due in different currencies, may prohibit or restrict the right of offset as defined in the Master Agreements.
Master Agreements also help limit credit and counterparty risk by specifying collateral posting arrangements at pre-arranged exposure levels. Under the Master Agreements, collateral is routinely transferred if the total net exposure to certain transactions (net of existing collateral) governed under the relevant master agreement with a counterparty in a given account exceeds a specified threshold depending on the counterparty and the type of Master Agreement. The Funds overall exposure to counterparty risk can change substantially within a short period, as it is affected by each transaction subject to the relevant Master Agreement. To the extent amounts due to the Fund from its counterparties are not fully collateralized, contractually or otherwise, the Fund bears the risk of loss from counterparty non-performance. The Funds investment adviser attempts to limit counterparty risk by only entering into Master Agreements with counterparties which the investment adviser believes to have the financial resources to honor their obligations and by monitoring the financial stability of those counterparties. For swap agreements executed with a Derivatives Clearing Organization (DCO) in a multilateral or other trade facility platform (centrally cleared swaps), counterparty risk is reduced by shifting exposure from the counterparty to the DCO. Additionally, the DCO has broad powers to provide an orderly liquidation in the event of a default.
Master Repurchase Agreements and Global Master Repurchase Agreements (individually and collectively Master Repo Agreements). Master Repo Agreements govern repurchase, reverse repurchase and treasury roll transactions between the Fund and select counterparties. The Master Repo Agreements maintain provisions for, among other things, initiation and confirmation, income payments and transfer, events of default, termination, and maintenance of collateral. In the event of default, the total value exposure will be offset against collateral exchanged to date, which would result in a net receivable/(payable) that would be due from/to the counterparty.
Master Securities Forward Transaction Agreements (Master Forward Agreements). Master Forward Agreements govern the considerations and factors surrounding the settlement of certain forward-settling transactions, such as delayed-delivery transactions, TBA securities and treasury roll transactions between the Fund and select counterparties. The Master Forward Agreements maintain provisions for, among other things, initiation and confirmation, payment and transfer, events of default, termination, and maintenance of collateral. Losses may arise due to changes in the value of the underlying securities prior to settlement date, if the counterparty does not perform under the contracts terms, or if the issuer does not issue the securities due to political, economic or other factors. In the event of default, the unrealized gain or loss will be offset against collateral exchanged to date, which would result in a net receivable/(payable) that would be due from/to the counterparty. In the ordinary course of business, settlements of transactions, are not typically subject to net settlement, except for TBA pools.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
International Swaps and Derivatives Association Inc. Master Agreements and Credit Support Annexes (ISDA Master Agreements). ISDA Master Agreements govern OTC financial derivative transactions entered into by the Funds investment adviser and select counterparties. The ISDA Master Agreements maintain provisions for general obligations, representations, agreements, events of default, termination and maintenance of collateral. Termination includes conditions that may entitle counterparties to elect to terminate early and cause settlement of all outstanding transactions under the applicable ISDA Master Agreement. Any election to early termination could be material to the financial statements. In the event of default, the total financial derivative value exposure will be offset against collateral exchanged to date, which would result in a net receivable/(payable) that would be due from/to the counterparty. The amount of collateral exchanged is based on provisions within the ISDA Master Agreements and is determined by the net exposure with the counterparty and is not identified for a specific OTC derivative instrument.
Customer Account Agreements. Customer Account Agreements and related addendums govern cleared derivative transactions such as futures, options on futures and centrally cleared derivatives. If a Fund transacts in centrally cleared derivatives, the investment adviser is a party to agreements with (1) a Futures Commissions Merchant (FCM) in which the FCM facilitates the execution of the centrally cleared derivative with the DCO and (2) with an executing broker/swap dealer to agree to the terms of the swap and resolution process in the event the centrally cleared swap is not accepted for clearing by the designated DCO. Cleared derivatives transactions require posting an amount of cash or cash equivalents equal to a certain percentage of the contract amount known as the initial margin as determined by each relevant clearing agency and is segregated at an FCM which is registered with the Commodity Futures Trading Commission (CFTC) or the applicable regulator. The Fund receives from, or pays to, the counterparty an amount of cash equal to the daily fluctuation in the value of the contracts. Such receipts or payments are known as the variation margin. Variation margin received may not be netted between futures and centrally cleared derivatives. In the event of default, counterparty risk is significantly reduced as creditors to the FCM do not have claim to the Funds assets in the segregated account. Additionally, portability of exposure in the event of default further reduces risk.
F. Financial Derivative Instruments
Futures Contracts. The Fund may buy and sell futures on interest rates and currencies. A futures contract is a standardized contract obligating two parties to exchange a specified asset at an agreed upon price and date. Variation margin is recorded by the Fund until the contracts are terminated at which time realized gains and losses are recognized. Futures contracts involve, to varying degrees, risk of loss in excess of the variation margin recorded by the Fund. The primary risks associated with the use of futures contracts are the imperfect correlation between the change in value of the securities held by the Fund and the prices of the futures contracts and the possibility the Fund may not be able to enter into a closing transaction because of an illiquid market. With futures, counterparty risk to the Fund is reduced since futures contracts are exchange traded and the exchanges clearinghouse, acting as counterparty to all exchange traded futures, guarantees the futures contracts against default.
Options Contracts. The Fund may buy and sell (write) call and put options on securities, futures, currencies and swap agreements (swaptions). An option is a contract that gives the purchaser of the option, in return for a premium paid, the right to buy a specified underlying instrument from the writer of the option (in the case of a call option), or to sell a specified underlying instrument to the writer of the option (in the case of a put option) at a designated price during the term of the option. When the Fund purchases an option, the premium paid by the Fund is recorded as an asset and is subsequently marked-to-market to reflect the current value of the option. Premiums paid for purchasing options which expire are treated as realized losses. Premiums paid for purchasing options which are exercised or closed are added to the cost basis of the underlying investment or offset against the proceeds of the underlying investment transaction to determine realized gain or loss. Purchasing call options tends to increase the Funds exposure to the underlying instrument. Purchasing put options tends to decrease the Funds exposure to the underlying instrument. The risks associated with purchasing options are limited to premiums paid and the failure of the counterparty to honor its obligation under the contract. When the Fund sells (writes) a call or put option, the premium received by the Fund is recorded as a liability and is subsequently marked-to-market to reflect the current value of the option. Premiums received from writing options which expire are treated as realized gains. Premiums received from writing options which are exercised or closed are added to the proceeds of the underlying investment transaction or reduce the cost basis of the underlying investment to
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
determine the realized gain or loss. Writing call options tends to decrease the Funds exposure to the underlying instrument. Writing put options tends to increase the Funds exposure to the underlying instrument. The risk associated with writing an option that is exercised is that an unfavorable change in the price of the security underlying the option could result in the Fund buying the underlying security at a price higher than the current value or selling the underlying security at a price lower than the current market value. There is also the risk the Fund may not be able to enter into a closing transaction if the market is illiquid. Options written by the Fund do not give rise to counterparty credit risk, as they obligate the Fund, not the counterparty, to perform.
Depending on the exchange on which an exchange traded futures option is traded, premium may be paid/received when purchasing/writing the option or there may be no premium paid/received when purchasing/writing the option. If no premium is paid/received for an exchange traded futures option, the option is marked-to-market daily and the change in value is recorded by the Fund as an unrealized gain or loss. Variation margin on these options is recorded by the Fund until the contracts are terminated at which time realized gains and losses are recognized. Exchange traded futures options with variation margin involve to varying degrees, risk of loss in excess of the variation margin recorded by the Fund. Swaptions are similar to options on securities except that instead of purchasing the right to buy or sell a security, the writer or purchaser of the swaption is granting or buying the right to enter into a previously agreed upon interest rate swap agreement at any time before the expiration of the option. Swaptions are illiquid investments.
Options contracts involve, to varying degrees, risk of loss in excess of the premium paid or received recorded by the Fund. The primary risks associated with the use of option contracts on futures contracts involve similar risks to trading in the underlying futures contracts, including the imperfect correlation between the change in value of the securities held by the Fund and the prices of the underlying futures contracts and the possibility the Fund may not be able to enter into a closing transaction because of an illiquid market. Certain option contracts entered into by the Fund during the period were traded on public markets that are regulated by the U.S. Commodity Futures Trading Commission (CFTC). Similar to futures contracts, counterparty risk to the Fund is reduced since the options on futures contracts traded by the Fund were exchange traded and the exchanges clearing house, as counterparty to all exchange traded options, guarantees the options contracts against default.
Forward Foreign Currency Contracts. A forward foreign currency contract is an agreement between two parties to buy and sell a currency at a set price on a future date. The use of forward foreign currency contracts does not eliminate fluctuations in the underlying prices of the Funds portfolio securities, but it does establish a fixed rate of currency exchange that can be achieved in the future. The value of a forward foreign currency contract fluctuates with changes in foreign currency exchange rates. Forward foreign currency contracts are marked-to-market daily and the change in value is recorded by the Fund as an unrealized gain or loss and as a receivable or payable from forward foreign currency contracts. Upon settlement, or delivery or receipt of the currency, a realized gain or loss is recorded, which is equal to the difference between the value of the contract at the time it was opened and the value at the time it was closed. Forward foreign currency contracts involve market risk in excess of the receivable or payable related to forward foreign currency contracts recorded by the Fund. Although contracts limit the risk of loss due to a decline in the value of the hedged currency, they also limit any potential gain that might result should the value of the currency increase. Additionally, the Fund could be exposed to the risk of a previously hedged position becoming unhedged if the counterparty to a contract is unable to meet the terms of the contract or if the value of the currency changes unfavorably to the offsetting currency.
Swap Agreements. Swap agreements are bilaterally negotiated agreements between the Fund and a counterparty to exchange or swap investment cash flows, assets, foreign currencies or market-linked returns at specified, future intervals. Swap agreements are privately negotiated in the OTC market or may be executed and centrally cleared with a DCO. OTC swaps are typically illiquid investments.
Swap agreements are marked-to-market daily and the change in value is recorded by the Fund as an unrealized gain or loss. For OTC swaps, premiums paid or received at the beginning of the measurement period are recorded as an asset or liability by the Fund and represent payments made or received upon entering into the OTC swap to compensate for differences between the stated terms of the OTC swap and prevailing market conditions relating to credit spreads, interest rates, currency exchange rates and other relevant factors as appropriate. These upfront payments are recorded as a realized gain or loss upon termination or maturity of the
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
OTC swap. For centrally cleared swaps, daily changes in valuation are recorded as a receivable or payable, as appropriate, and received from or paid to the DCO on a daily basis until the contracts are terminated at which time a realized gain or loss is recorded. The use of centrally cleared swaps may require the Fund to commit initial and variation margin that may otherwise not be required under an OTC swap. A liquidation payment received or made at the termination of the swap agreement is recorded as a realized gain or loss. Net periodic payments received or paid by the Fund are included as part of realized gain or loss.
Entering into swap agreements involves, to varying degrees, elements of interest, credit, market and documentation risk in excess of the unrealized gain or loss recorded by the Fund. Such risks include that there is no liquid market for OTC swaps, that the counterparty to the agreements may default on its obligation to perform or disagree as to the meaning of contractual terms in the agreement and that there may be unfavorable changes in interest rates or value of underlying securities. Centrally cleared swaps involve to varying degrees, risk of loss in excess of the variation margin recorded by the Fund.
Interest Rate Swap Agreements. Interest rate swap agreements involve the exchange by the Fund with another party of their respective commitments to pay or receive interest with respect to the notional amount of principal. Interest rate swap agreements that the Fund entered into include: fixed-for-floating rate swaps, under which a party agrees to pay a fixed rate in exchange for receiving a floating rate tied to a benchmark and floating-for-fixed rate swaps, under which a party agrees to pay a floating rate in exchange for receiving a fixed rate.
The Funds maximum risk of loss from counterparty credit risk for an interest rate swap agreement is the discounted net value of the cash flows to be received from the counterparty over the contracts remaining life, to the extent this amount is positive.
Credit Default Swap Agreements. Credit default swap agreements involve one party making a stream of payments (referred to as the buyer of protection) to another party (the seller of protection) in exchange for the right to receive a specified return if a credit event occurs for the referenced entity, obligation or index. As a seller of protection, the Fund will generally receive from the buyer of protection a premium in return for such protection and/or a fixed rate of income throughout the term of the swap if there is no credit event. A credit event is defined under the terms of each swap agreement and may include, but is not limited to, underlying entity default, bankruptcy, restructuring, write-down, principal shortfall or interest shortfall. As a seller, the Fund adds leverage to its portfolio because, in addition to its total net assets, the Fund is subject to investment exposure on the notional amount of the swap. If the Fund is a seller of protection and a credit event occurs, as defined under the terms of that particular swap agreement, the Fund will either pay to the buyer of protection an amount equal to the notional amount of the credit default swap and take delivery of the referenced obligation, other deliverable obligations or underlying securities comprising the referenced index or pay a net settlement amount in the form of cash or securities equal to the notional amount of the credit default swap less the recovery value of the referenced obligation or underlying securities comprising the referenced index. If the Fund is a buyer of protection and a credit event occurs, as defined under the terms of that particular credit default swap agreement, the Fund will either receive from the seller of protection an amount equal to the notional amount of the credit default swap and deliver the referenced obligation, other deliverable obligations or underlying securities comprising the referenced index or receive a net settlement amount in the form of cash or securities equal to the notional amount of the credit default swap less the recovery value of the referenced obligation or underlying securities comprising the referenced index. Until a credit event occurs, recovery values are determined by market makers considering either industry standard recovery rates or entity specific factors and considerations. When a credit event occurs, the recovery value is determined by a facilitated auction, administered by ISDA, whereby a minimum number of allowable broker bids, together with a specified valuation method, are used to calculate the settlement value.
The Fund may use credit default swap agreements on corporate or sovereign issues to provide a measure of protection against defaults of an issuer (i.e., to reduce risk where the Fund owns or has exposure to the referenced obligation) or to take an active long or short position with respect to the likelihood of a particular issuers default. If a credit event occurs and cash settlement is not elected, a variety of other deliverable obligations may be delivered in lieu of the specific referenced obligation. The ability to deliver other obligations may result in a cheapest-to-deliver option (the buyer of protections right to choose the deliverable obligation with the lowest value following a credit event).
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
The Fund may use credit default swap agreements on credit indices to hedge a portfolio of credit default swap agreements or bonds, to protect investors owning bonds against default and to speculate on changes in credit quality. A credit index is a basket of credit instruments or exposures designed to represent a portion of the credit market. These indices consist of reference credits that are considered to be the liquid entities in the credit default swap market based on the index sector. Components of the indices may include, but are not limited to, investment grade securities, high yield securities, asset-backed securities and emerging market securities. These components can be determined based upon various credit ratings within each sector. Credit indices are traded using credit default swaps with standardized terms including a fixed spread and standard maturity dates. An index credit default swap references all the issuers in the index, and if there is a credit event, the credit event is settled based on that issuers weight in the index. The composition of the indices changes periodically, usually every six months, and for most indices, each issuer has an equal weight in the index.
Either as a seller of protection or a buyer of protection of a credit default swap agreement, the Funds maximum risk of loss from counterparty risk is the fair value of the agreement. The maximum potential amount of future payments (undiscounted) that the Fund as a seller of protection could be required to make under a credit default swap agreement would be an amount equal to the notional amount of the agreement. Notional amounts of all credit default swap agreements outstanding, as of December 31, 2013, for which the Fund is a seller of protection, are disclosed in the Notes to the Investment Portfolio. These potential amounts would be partially offset by any recovery values of the respective referenced obligations, upfront payments received upon entering into the agreement or net amounts received from the settlement of buy protection credit default swap agreements entered into by the Fund for the same referenced entity or entities.
FASB ASC Topic 815, Derivatives and Hedging and Financial Instruments Eligible for Offset. FASB ASC Topic 815 includes the requirement for enhanced qualitative disclosures about objectives and strategies for using derivative instruments and disclosures regarding credit related contingent features in derivative instruments; as well as quantitative disclosures in the semi-annual and annual financial statements about fair value, gains and losses, and volume of activity for derivative instruments. Information about these instruments is disclosed in the context of each instruments primary underlying risk exposure, which is categorized as credit, equity price, interest rate and foreign currency exchange rate risk. The following disclosures include: (1) Objectives and strategies for the Funds derivative investments during the year; (2) A summary table of the fair valuations of the Funds derivative instruments categorized by risk exposure, which references the location on the Statement of Assets and Liabilities and the realized and unrealized gain or loss on the Statement of Operations for each derivative instrument as of June 30, 2014; (3) A summary table of derivative instruments and certain investments of the Fund, which are subject to master netting agreements or a similar agreement and are eligible for offset in the Statement of Assets and Liabilities as of June 30, 2014; and (4) A table reflecting the Funds average monthly derivative volume for the period ended June 30, 2014.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Objectives and Strategies. The Fund entered into futures contracts to manage exposure to or hedge changes in interest rates, as a substitute for investment in physical securities and as an efficient means of adjusting overall exposure to certain markets as part of its overall investment strategy. The Fund purchased and wrote option contracts to manage exposure to or hedge changes in interest rates and to manage exposure to or hedge changes in inflation. The Fund entered into forward foreign currency contracts to minimize foreign currency risk on portfolio securities denominated in foreign currencies. The Fund entered into interest rate swap agreements to manage duration, to manage interest rate and yield curve exposure and as a substitute for investment in physical securities. The Fund entered into credit default swap agreements on corporate issues, sovereign issues and indices to manage credit exposure.
Derivative Instruments Categorized by Risk Exposure
Credit Contracts | Foreign Exchange Contracts |
Interest Rate Contracts |
Total | |||||||||||||
|
|
|||||||||||||||
Fair values of derivative instruments on the Statement of Assets and Liabilities as of June 30, 2014: |
|
|||||||||||||||
Assets: |
||||||||||||||||
Investments in securities, at value2 |
$ | | $ | | $ | 129,985 | $ | 129,985 | ||||||||
Forward foreign currency contracts |
| 47,813 | | 47,813 | ||||||||||||
Variation margin on financial derivative instruments |
| | 14,715 | 14,715 | ||||||||||||
Unrealized appreciation on OTC swap agreements |
596,400 | | 190,889 | 787,289 | ||||||||||||
OTC swap premiums paid |
77,228 | | 58,914 | 136,142 | ||||||||||||
|
|
|||||||||||||||
$ | 673,628 | $ | 47,813 | $ | 394,503 | $ | 1,115,944 | |||||||||
Liabilities: |
||||||||||||||||
Written options, at value |
$ | 4,240 | $ | 17,472 | $ | 139,782 | $ | 161,494 | ||||||||
Forward foreign currency contracts |
| 382,062 | | 382,062 | ||||||||||||
Variation margin on financial derivative instruments |
27,108 | | 4,759 | 31,867 | ||||||||||||
Unrealized depreciation on OTC swap agreements |
4,519 | | 5,976 | 10,495 | ||||||||||||
OTC swap premiums received |
540,848 | | | 540,848 | ||||||||||||
|
|
|||||||||||||||
$ | 576,715 | $ | 399,534 | $ | 150,517 | $ | 1,126,766 | |||||||||
The effect of derivative instruments on the Statement of Operations for the period ended June 30, 2014: |
| |||||||||||||||
Net realized gain (loss) on: |
||||||||||||||||
Investment transactions2 |
$ | | $ | | $ | (121) | $ | (121) | ||||||||
Futures contracts |
| | (204,215) | (204,215) | ||||||||||||
Swap agreements |
440,500 | | (323,218) | 117,282 | ||||||||||||
Written option contracts |
11,845 | | 455,479 | 467, 324 | ||||||||||||
Forward foreign currency contracts |
| 112,137 | | 112,137 | ||||||||||||
|
|
|||||||||||||||
$ | 452,345 | $ | 112,137 | $ | (72,075) | $ | 492,407 | |||||||||
Net change in unrealized appreciation (depreciation) on : |
|
|||||||||||||||
Investments2 |
$ | | $ | | $ | (229,167) | $ | (229,167) | ||||||||
Futures contracts and financial derivative instruments |
45,344 | | 114,095 | 159,439 | ||||||||||||
OTC swap agreements |
200,026 | | 600,926 | 800,952 | ||||||||||||
Written options contracts |
12,771 | 5,827 | 248,548 | 267,146 | ||||||||||||
Forward foreign currency contracts |
| (336,100) | | (336,100) | ||||||||||||
|
|
|||||||||||||||
$ | 258,141 | $ | (330,273) | $ | 734,402 | $ | 662,270 |
Derivative and Financial Instruments Eligible for Offset
Gross Amount the Statements of Assets and |
Financial Instruments 4 |
Collateral 5 | Net Amount 6 | Total Collateral 7 | ||||||||||||||||||||
Liabilities 3 | Cash | Security | ||||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Derivative Assets by Counterparty* |
|
|||||||||||||||||||||||
BBP |
$ | 478,540 | $ | (447,063) | $ | - | $ | 31,477 | $ | - | $ | - | ||||||||||||
GSB |
63,728 | (63,728) | - | - | - | - | ||||||||||||||||||
GSI |
422,819 | (8,759) | - | 414,060 | - | - | ||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Derivatives eligible for offset |
$ | 965,087 | $ | (519,550) | $ | - | $ | 445,537 | ||||||||||||||||
Derivatives not eligible for offset |
150,857 | $ | 57,000 | $ | 95,045 | |||||||||||||||||||
|
|
|||||||||||||||||||||||
$ | 1,115,944 |
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Derivative and Financial Instruments Eligible for Offset (continued)
Gross Amount of Assets and |
Financial Instruments 4 |
Collateral 5 | Net Amount 6 | Total Collateral 7 | ||||||||||||||||||||
Liabilities 3 | Cash | Security | ||||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Derivative Liabilities by Counterparty* |
|
|||||||||||||||||||||||
BBP |
$ | 447,063 | $ | (447,063) | $ | - | $ | - | $ | - | $ | - | ||||||||||||
GSB |
98,229 | (63,728) | - | 34,501 | - | - | ||||||||||||||||||
GSI |
8,759 | (8,759) | - | - | - | - | ||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Derivatives eligible for offset |
$ | 554,051 | $ | (519,550) | $ | - | $ | 34,501 | ||||||||||||||||
Derivatives not eligible for offset |
572,715 | $ | 936,000 | $ | 683,711 | |||||||||||||||||||
|
|
|||||||||||||||||||||||
$ | 1,126,766 |
Gross Amount Statements of Assets and |
Financial | Total Collateral 7 | ||||||||||||||||||||||
Liabilities 8 | Instruments 4 | Collateral 5 | Net Amount 8 | Cash | Security | |||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Master Forward Agreement Transaction Assets by Counterparty* |
|
|||||||||||||||||||||||
GSC |
$ | 1,665,391 | $ | (1,665,391) | $ | | $ | | $ | | $ | | ||||||||||||
Master Forward Agreement Transaction Liabilities by Counterparty* |
|
|||||||||||||||||||||||
GSC |
$ | 1,678,595 | $ | (1,665,391) | $ | | $ | 13,204 | $ | | $ | |
Average Derivative Volume1
Cost of Options Purchased and Written |
Notional Value at Purchase of Futures |
Cost of Forward Foreign Currency Contracts |
Notional Amount of Interest Rate Swap Agreements |
Notional Amount of Credit Default Swap Agreements |
||||||||||||||||
|
|
|||||||||||||||||||
Average monthly volume |
$ | 520,731 | $ | 59,200,738 | $ | 35,202,448 | $ | 22,868,841 | $ | 71,923,136 |
1 | The derivative instruments outstanding as of June 30, 2014, as disclosed in the Notes to Investment Portfolio and the amounts of realized and changes in unrealized gains and losses on derivative instruments during the period ended June 30, 2014, as disclosed in the Statement of Operations, also serve as indicators of the derivative volume for the Funds. |
2 | Purchased options market value is reflected in Investments, at value. Realized gain (loss) and change in unrealized appreciation (depreciation) on purchased options are reflected in realized gain (loss) on investments and change in unrealized appreciation (depreciation) on investments, respectively, in the Statement of Operations. |
3 | Amounts eligible for offset are presented gross in the Statement of Assets and Liabilities. |
4 | Financial instruments eligible for offset but not offset in the Statement of Assets and Liabilities. |
5 | Cash and security collateral not offset in the Statements of Assets and Liabilities. For derivative assets and liabilities, amounts do not reflect over-collateralization. |
6 | For assets, net amount represents the amount payable by the counterparty to the Fund in the event of default. For liabilities, net amount represents the amount payable by the Fund to the counterparty in the event of default. |
7 | Cash and security collateral pledged or segregated for derivative investments. For assets, amount reflects collateral received from or segregated by the counterparty. For liabilities, amount reflects collateral pledged or segregated by the Fund. Collateral for derivatives not eligible for offset includes amounts pledged for margin purposes. |
8 | Investment liabilities and assets include delayed delivery securities and secured borrowings. Liabilities reflect amounts payable to the counterparty for the market value of the investments, assets reflect the cost of the investment and the net amount reflects net unrealized gain or loss. The net unrealized gain or loss constitutes the amount which is subject to margin or collateral requirements as required under the Master Forward Agreement. |
* | Counterparties are defined on page 12 in the Investment Portfolio. |
G. Purchases and Sales of Securities
During the period ended June 30, 2014, purchases and sales of investment securities, excluding U.S. government obligations and short-term investments, aggregated $170,586,033 and $144,188,480 respectively. During the period ended June 30, 2014, purchases and sales of long-term U.S. government obligations aggregated $124,649,995 and $106,921,371 respectively.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
Subject to compliance with Rule 17a-7 under the 1940 Act, the Adviser is permitted to cause the Fund to purchase securities from or sell securities to another account, including another investment company, advised by the Adviser.
There are occasions when portfolio transactions for the Fund are executed as part of concurrent authorizations to purchase or sell the same security for the Fund and for other accounts served by the Adviser or an affiliated company. They are effected only when the Adviser believes that to do so is in the best interest of the Fund and the other accounts participating. When such concurrent authorizations occur, the executions will be allocated in an equitable manner.
H. Fees and Agreements
Investment Advisory Agreement. Pursuant to an Investment Advisory Agreement, the Fund pays PIMCO a quarterly fee at the annual rate of 0.25% of the average daily net assets of the Fund.
Fund Accounting and Administration Services Agreement. Pursuant to a Fund Accounting and Administration Services Agreement, the Fund pays JFS an annual fee, payable monthly, equal to 0.25% of the average daily value of the net assets of the Fund up to $100 million; 0.20% of the average daily value of the net assets of the Fund from $100 million to $200 million; and 0.15% of the average daily value of the net assets of the Fund over $200 million. JFS makes individuals available to the Fund to serve as its officers. Officers are not directly compensated by the Fund.
Directors Fees and Expenses. The Fund pays each Director of the Board a specified retainer fee plus specified amounts for each Board and Committee meeting attended.
I. Income Tax Matters
The following information is presented on an income tax basis. The timing and characterization of certain income and capital gains are determined in accordance with federal tax regulations, which may differ from GAAP. These differences primarily relate to timing differences in recognizing certain gains and losses on investment transactions and accounting treatment for notional principal contracts. To the extent that differences arise that are permanent in nature, such amounts are reclassified within the components of net assets on the Statement of Assets and Liabilities based on their federal income tax treatment; timing differences do not require reclassification. Permanent differences may include but are not limited to the following: foreign currency reclassifications, paydown reclassifications, accounting treatment of notional principal contracts and distribution adjustments. Timing and permanent differences do not impact the NAV of the Fund.
At June 30, 2014, the cost of investments and the components of net unrealized appreciation/(depreciation) were as follows:
Cost of Investments |
Gross Unrealized Depreciation |
Gross Unrealized Appreciation |
Net Unrealized Appreciation | |||
$180,700,177 |
$(1,257,322) | $9,035,940 | $7,778,618 |
The distributions paid of $6,738,806 and $310,870 for the year ended December 31, 2013, were from net ordinary income and return of capital, respectively.
Montgomery Street Income Securities, Inc. (Unaudited)
Notes to Financial Statements
June 30, 2014
At December 31, 2013, the Funds last fiscal year end, the Fund had unused capital loss carryforwards available for federal income tax purposes which may be applied against any future realized net taxable capital gains or until the respective expiration dates occur as noted below.
Years of Expiration |
Amount | |
2016 | $9,646,919 | |
2017 | 11,494,100 | |
Total | $21,141,019 |
The Fund had $155,886 of currency and $2,079,018 of capital losses realized from November 1, 2013, through December 31, 2013, which were deferred for tax purposes to January 1, 2014, the first day of the current fiscal year.
FASB ASC Topic 740, Income Taxes, provides guidance for how uncertain tax positions should be recognized, measured, presented and disclosed in the financial statements. FASB ASC Topic 740 requires the evaluation of tax positions taken or expected to be taken in the course of preparing the Funds tax returns to determine whether the tax positions are more-likely-than-not of being sustained by the applicable tax authority. Tax positions not deemed to meet the more-likely-than-not threshold would result in the Fund recording a tax expense in the current year. FASB ASC Topic 740 requires that management evaluate the tax positions taken in returns for 2010 through 2013 which remain subject to examination, by the Internal Revenue Service and certain other jurisdictions. Management completed an evaluation of the Funds tax positions and based on that evaluation, determined that no provision for federal income tax was required in the Funds financial statements during the period ended June 30, 2014.
J. Share Repurchases
Under the Funds limited repurchase program, the Fund is authorized to effect repurchases of its shares in the open market from time to time when the Funds shares trade at a discount to their NAV. During the period ended June 30, 2014, the Fund purchased 8,000 shares of common stock on the open market at a total cost of $129,894. The weighted average discount of these purchases, comparing the purchase price to the NAV at the time of purchase, was 10.44%. During the year ended December 31, 2013, the Fund purchased 24,000 shares of common stock on the open market at a total cost of $397,989. The weighted average discount of these purchases, comparing the purchase price to the NAV at the time of purchase, was 9.43%.
K. Subsequent Events
Management has evaluated subsequent events for the Fund through the date the financial statements are issued, and has concluded there are no events that require financial statement disclosure and/or adjustments to the financial statements.
Montgomery Street Income Securities, Inc. (Unaudited)
Dividend Reinvestment and Cash Purchase Plan (Plan)
June 30, 2014
All registered stockholders of the Funds Common Stock are offered the opportunity of participating in the Plan. Registered stockholders, on request or on becoming registered stockholders, are mailed information regarding the Plan, including a form by which they may elect to participate in the Plan and thereby cause their future net investment income dividends and capital gains distributions to be invested in shares of the Funds common stock. The Custodian is the agent (the Plan Agent) for stockholders who elect to participate in the Plan.
If a stockholder chooses to participate in the Plan, the stockholders dividends and capital gains distributions will be promptly invested, automatically increasing the stockholders holdings in the Fund. If the Fund declares a dividend or capital gains distributions payable either in cash or in stock of the Fund, the stockholder will automatically receive stock. If the market price per share on the payment date for the dividend (the Valuation Date) equals or exceeds the net asset value per share, the Fund will issue new shares to the stockholder at the greater of the following on the Valuation Date: (a) net asset value per share or (b) 95% of the market price per share. If the market price per share on the Valuation Date is less than the net asset value per share, the Fund will issue new shares to the stockholder at the market price per share on the Valuation Date. In either case, for federal income tax purposes the stockholder will be deemed to receive a distribution equal to the market value on the Valuation Date of the new shares issued. If dividends or capital gains distributions are payable only in cash, then the stockholder will receive shares purchased on the New York Stock Exchange or otherwise on the open market. In this event, for federal income tax purposes the amount of the distribution will equal the cash distribution paid. State and local taxes may also apply. All reinvestments are in full and fractional shares, carried to three decimal places.
Stockholders participating in the Plan can also purchase additional shares quarterly in any amount from $100 to $5,000 (a Voluntary Cash Investment) by sending in a check together with the cash remittance slip, which will be sent with each statement of the stockholders account, to Computershare, the Funds transfer agent (the Transfer Agent). Such additional shares will be purchased on the open market by the Plan Agent or its delegate. The purchase price of shares purchased on the open market, whether pursuant to a reinvestment of dividends payable only in cash or a Voluntary Cash Investment, will be the average price (including brokerage commissions) of all shares purchased by the Plan Agent or its delegate on the date such purchases are affected. In addition, stockholders may be charged a service fee in an amount up to 5% of the value of the Voluntary Cash Investment. Although subject to change, stockholders are currently charged $1 for each Voluntary Cash Investment.
Stockholders may terminate their participation in the Plan at any time and elect to receive dividends and other distributions in cash by notifying the Transfer Agent in writing. Such notification must be received not less than 10 days prior to the record date of any distribution. There is no charge or other penalty for such termination. The Plan may be terminated by the Fund upon written notice mailed to the stockholders at least 30 days prior to the record date of any distribution. Upon termination, the Fund will issue certificates for all full shares held under the Plan and cash for any fractional share.
Alternatively, stockholders may request the Transfer Agent to instruct the Plan Agent or its delegate to sell any full shares and remit the proceeds, less a $2.50 service fee and less brokerage commissions. The sale of shares (including fractional shares) will be a taxable event for federal income tax purposes and may be taxable for state and local tax purposes.
The Plan may be amended by the Fund at any time. Except when required by law, written notice of any amendment will be mailed to stockholders at least 30 days prior to its effective date. The amendment will be deemed accepted unless written notice of termination is received by the Transfer Agent prior to the effective date.
An investor holding shares in its own name can participate directly in the Plan. An investor holding shares in the name of a brokerage firm, bank or other nominee should contact that nominee, or any successor nominee, to determine whether the nominee can participate in the Plan on the investors behalf and to make any necessary arrangements for such participation.
Additional information, including a copy of the Plan and its Terms and Conditions and an enrollment form, can be obtained from the Transfer Agent by writing Computershare, P.O. Box 43006, Providence, RI 02940-3006, or by calling (877) 437-3938.
Montgomery Street Income Securities, Inc. (Unaudited)
Directors and Officers
June 30, 2014
Stockholder Meeting Results
The Annual Meeting of Stockholders of the Fund was held on July 22, 2014 at 4 Embarcadero Center, 22nd Floor, San Francisco, California. At the meeting, the following matter was voted upon and approved by the stockholders: To elect four Directors of the Fund to hold office until the next annual meeting or until their respective successors shall have been duly elected and qualified.
Number of Votes: | ||||||||
Directors | For | Withheld | ||||||
Richard J. Bradshaw |
8,722,223 | 829,788 | ||||||
Victor L. Hymes |
8,721,125 | 830,886 | ||||||
Wendell G. Van Auken |
8,715,397 | 836,614 | ||||||
Nancy E. Wallace |
9,337,136 | 214,875 |
Directors and Officers
DIRECTORS |
OFFICERS | |
RICHARD J. BRADSHAW |
MARK D. NERUD | |
Chairman |
President and Chief Executive Officer | |
VICTOR L. HYMES |
DANIEL W. KOORS | |
Treasurer and Chief Operating Officer | ||
WENDELL G. VAN AUKEN |
DIANA R. GONZALEZ | |
Chief Legal Officer | ||
NANCY E. WALLACE |
JOSEPH B. OBOYLE | |
Chief Compliance Officer | ||
EMILY J. BENNETT | ||
Secretary | ||
DANIELLE A. BERGANDINE | ||
Assistant Secretary |
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Advisory Agreement Approval
June 30, 2014
At a meeting held on April 22, 2014, the Board, including the Directors of the Fund who were not parties to the agreement or interested persons of any such party as defined in the Investment Company Act of 1940, as amended (1940 Act), (the Independent Directors), voted to continue the Investment Advisory Agreement (the Agreement) with PIMCO until July 31, 2015.
In reviewing the Agreement, the Board considered, among other information, the written and oral reports provided by PIMCO, Jackson Fund Services (JFS), and Lipper Inc. In addition, the Board took into account information provided at previous meetings and information provided about PIMCO and other potential advisers developed in connection with the Boards search for a new adviser in 2010.
Nature, Extent, and Quality of Services. The Board examined the nature, extent, and quality of the advisory services provided and to be provided to the Fund by PIMCO. The Board considered the terms of the Agreement, the experience and qualifications of PIMCO and its personnel in managing fixed-income instruments, PIMCOs investment strategy for the Fund, and the risk profile of the Funds investments. The Board also considered the experience of PIMCO in managing open- and closed-end funds, the availability and responsiveness of PIMCOs personnel, the extent and quality of information provided by PIMCO to the Board, PIMCOs compliance policies and procedures and attention to compliance matters, and the extent of any regulatory issues relating to PIMCO or its affiliates. Further, the Board considered the stability of the PIMCO organization and turnover in its personnel, the overall commitment of PIMCO to the Fund, and the general financial condition, resources, and reputation of PIMCO and its parent. The Board was generally satisfied with the nature, extent, and quality of the advisory services provided to the Fund.
Investment Performance. The Board reviewed the investment performance of PIMCO over various periods compared to the performance of relevant indices, of a peer group of other similar funds, and of composite fund accounts of PIMCO using similar investment strategies. The Board also reviewed with PIMCO and JFS the ways in which the investment strategies employed by PIMCO had contributed to its investment performance. The performance data showed, among other things, that the Fund outperformed the Barclays U.S. Aggregate Bond Index and the Barclays Credit Index, and underperformed the average of its peer fund group, for the one-year and three-year periods ended December 31, 2013.
Cost of Services. The Board examined the cost of the services provided and to be provided to the Fund by PIMCO, including expense information concerning the peer group of other similar funds and of fund and non-fund accounts of PIMCO employing similar investment strategies. The advisory fee charged by PIMCO was generally comparable to that charged to other PIMCO fund and non-fund accounts. The advisory fee charged by PIMCO was also comparable to the advisory fee charged by the Funds prior investment adviser, as well as to the advisory fee proposed by the other adviser candidates considered by the Board in connection with its 2010 search. The Board concluded that the advisory fees charged by PIMCO generally were competitive.
Profits Realized. The Board considered profits realized and to be realized by PIMCO from its relationship with the Fund and reviewed an estimate prepared by PIMCO. The Board acknowledged the inherent limitations of profitability analyses, including their reliance on various allocations and assumptions. The Board recognized that PIMCO was entitled to earn a profit for the services it furnishes and concluded that the profit estimated to be earned by PIMCO would not be excessive.
Econmies of Scale. The Board considered the extent to which economies of scale could be realized as the Fund grows and whether the advisory fee charged by PIMCO reflects any such economies of scale. It was noted that, as a closed-end fixed income fund making regular dividend distributions, the assets of the Fund were not expected to increase materially. Accordingly, the Board had negotiated with PIMCO a fixed fee rate taking into account the then-current size of the Fund. In the event the size of the Fund does increase materially in the future, the Board will consider whether the advisory fee should be adjusted to reflect any economies of scale.
Montgomery Street Income Securities, Inc. (Unaudited)
Investment Advisory Agreement Approval
June 30, 2014
Other Benefits. The Board recognized that PIMCO and its affiliates may derive other benefits from its relationship with the Fund, including the use of the Funds performance record in marketing other products, the inclusion of the Fund on its client list, and the aggregation of the Funds purchase orders with other accounts.
In addition to the foregoing factors, among others, the Board considered its ability to terminate the Agreement on sixty days notice. In its deliberations, the Board did not identify any particular factor or factors that were all-important or controlling, and each Director assigned different weights to the various factors considered.
Montgomery Street Income Securities, Inc. (Unaudited)
General Information
June 30, 2014
Investment |
Pacific Investment Management Company LLC | |
Adviser |
840 Newport Center Drive | |
Newport Beach, CA 92660 | ||
Administrator |
Jackson Fund Services | |
225 West Wacker Drive | ||
Chicago, IL 60606 | ||
Transfer Agent |
Computershare | |
P.O. Box 30170 | ||
College Station, TX 77842-3170 | ||
(Tel) 1/877/437-3938 | ||
Custodian |
The Bank of New York Mellon Corporation | |
One Mellon Center | ||
Pittsburgh, PA 15258 | ||
Legal Counsel |
Pillsbury Winthrop Shaw Pittman LLP | |
Four Embarcadero Center | ||
San Francisco, CA 94111 |
Montgomery Street Income Securities, Inc. (Unaudited)
Privacy Policy Statement
June 30, 2014
The Fund considers the privacy of its stockholders to be of fundamental importance and has established a policy to maintain the privacy of the information you share with us. In addition, the Fund relies on the privacy and customer information protection policies and procedures of its service providers.
Personal information we collect
We do not sell any information to any third parties. However, we may collect and retain certain nonpublic personal information about you, including:
| Information we receive from broker-dealers, investment advisers, the Funds transfer agent, and the Funds dividend reinvestment plan administrator (such as a stockholders name, address and tax identification number); |
| An address received from a third party when a stockholder has moved; and |
| Account balance and transaction activity. |
Personal information we may disclose
We may occasionally disclose nonpublic personal information about you to affiliates and non-affiliates as permitted by law. Instances when we may share information include:
| Disclosing information to a third party in order to process account transactions that you request or authorize; |
| Disclosing your name and address to companies that mail Fund related materials, such as stockholder reports and proxy materials; and |
| Disclosing information in connection with regulatory inquiries and legal proceedings, such as responding to a request for information or subpoena. |
When information is shared with third parties, they are not permitted to use the information for any purpose other than to assist our servicing of your account(s) or as permitted by law. If you close your account(s) or if we lose contact with you, we will continue to share information in accordance with our current privacy policy and practices. We restrict access to your nonpublic personal information to authorized agents, including employees of the Funds administrator who need to know that information to provide services to the Fund and its stockholders. We maintain physical, electronic and procedural safeguards that comply with federal standards to guard your nonpublic personal information.
These measures reflect our commitment to maintaining the privacy of your nonpublic personal information. We appreciate the confidence you have shown by entrusting us with your assets.
If you would like to learn more or have any questions about our privacy practices, please contact the Fund at the following address:
Montgomery Street Income Securities, Inc.
c/o Jackson Fund Services
225 W. Wacker Drive, Suite 1200
Chicago, IL 60606
Effective: August 31, 2007
Jackson Fund Services
225 West Wacker Drive Suite 1200
Chicago, IL 60606
Presorted Standard
U.S. Postage
PAID
Lancaster, PA
Permit No. 1313
MSIS
(42065 6/14)
Item 2. Code of Ethics.
Not applicable.
Item 3. Audit Committee Financial Expert.
Not applicable.
Item 4. Principal Accountant Fees and Services.
Not applicable.
Item 5. Audit Committee of Listed Registrants.
Not applicable.
Item 6. Investments.
(a) | Included in Report to Stockholders under Item 1. |
(b) | Not applicable. |
Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End Management Investment Companies.
Not applicable.
Item 8. Portfolio Managers of Closed-End Management Investment Companies.
Not applicable.
Item 9. Purchases of Equity Securities by Closed-End Management Investment Company and Affiliated Purchasers.
Period | (a) Total Number of |
(b) Average Price |
(c) Total Number of |
(d) Maximum Number (or | ||||
January 1 January 31 |
0 | 0 | n/a | n/a | ||||
February 1 February 29 |
4,000 | 15.97 | n/a | n/a | ||||
March 1 March 31 |
0 | 0 | n/a | n/a | ||||
April 1 April 30 |
0 | 0 | n/a | n/a | ||||
May 1 May 31 |
4,000 | 16.41 | n/a | n/a | ||||
June 1 June 30 |
0 | 0 | n/a | n/a | ||||
Total |
8,000 | 16.19 | n/a | n/a |
(1) All purchases were made on the open market pursuant to the registrants Repurchase Program and related guidelines.
Item 10. Submission of Matters to a Vote of Security Holders.
There have been no material changes to the procedures by which stockholders may recommend nominees to the registrants Board of Directors since the registrant last disclosed such procedures in a Proxy Statement or Form N-CSR.
Item 11. Controls and Procedures.
(a) | The President/Principal Executive Officer and the Treasurer/Principal Financial Officer of the registrant have concluded, based on their evaluation of the registrants disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940, as amended) as of a date within ninety (90) days of the filing date of this report on Form N-CSR, that such controls and procedures are effective and that the design and operation of such procedures ensures that information required to be disclosed by the registrant in this report on Form N-CSR is recorded, processed, summarized, and reported within the time periods specified in the U.S. Securities and Exchange Commissions rules and forms. |
(b) | There has been no change in the registrants internal controls over financial reporting (as defined in Rule 30a-3(d) under the Investment Company Act of 1940, as amended) that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the registrants internal control over financial reporting. |
Item 12. Exhibits.
(a)(1) Not applicable.
(2) | Certifications required by Rule 30a-2(a) under the Investment Company Act of 1940, as amended. |
(3) | Not applicable. |
(b) | Certification required by Rule 30a-2(b) under the Investment Company Act of 1940, as amended. |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Montgomery Street Income Securities, Inc. | ||
By: | /s/ Mark D. Nerud | |
Name: | Mark D. Nerud | |
Title: | President and Principal Executive Officer | |
Date: | September 5, 2014 |
Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
By: | /s/ Mark D. Nerud | |
Name: | Mark D. Nerud | |
Title: | President and Principal Executive Officer | |
Date: | September 5, 2014 |
By: | /s/ Daniel W. Koors | |
Name: | Daniel W. Koors | |
Title: | Treasurer and Principal Financial Officer | |
Date: | September 5, 2014 |
EXHIBIT LIST
Exhibit 12(a)(2)(a): | Certification of the Principal Executive Officer required by Rule 30a-2(a) under the Investment Company Act of 1940, as amended | |
Exhibit 12(a)(2)(b): | Certification of the Principal Financial Officer required by Rule 30a-2(a) under the Investment Company Act of 1940, as amended | |
Exhibit 12(b): | Certification required by Rule 30a-2(b) under the Investment Company Act of 1940, as amended |
Exhibit 12(a)(2)(a)
CERTIFICATION
I, Mark D. Nerud, certify that:
1. | I have reviewed this report on Form N-CSR of Montgomery Street Income Securities, Inc.; |
2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations, changes in net assets, and cash flows (if the financial statements are required to include a statement of cash flows) of the registrant as of, and for, the periods presented in this report; |
4. | The registrants other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940) and internal control over financial reporting (as defined in Rule 30a-3(d) under the Investment Company Act of 1940) for the registrant and have: |
a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; |
b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; |
c) | Evaluated the effectiveness of the registrants disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of a date within 90 days prior to the filing date of this report based on such evaluation; and |
d) | Disclosed in this report any change in the registrants internal control over financial reporting that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the registrants internal control over financial reporting; and |
5. | The registrants other certifying officer and I have disclosed to the registrants auditors and the audit committee of the registrants board of directors: |
a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrants ability to record, process, summarize, and report financial information; and |
b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrants internal control over financial reporting. |
Date: September 5, 2014 | /s/ Mark D. Nerud | |||||||||
By: | Mark D. Nerud | |||||||||
President and Principal Executive Officer |
Exhibit 12(a)(2)(b)
CERTIFICATION
I, | Daniel W. Koors, certify that: |
1. | I have reviewed this report on Form N-CSR of Montgomery Street Income Securities, Inc.; |
2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations, changes in net assets, and cash flows (if the financial statements are required to include a statement of cash flows) of the registrant as of, and for, the periods presented in this report; |
4. | The registrants other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940) and internal control over financial reporting (as defined in Rule 30a-3(d) under the Investment Company Act of 1940) for the registrant and have: |
a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; |
b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; |
c) | Evaluated the effectiveness of the registrants disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of a date within 90 days prior to the filing date of this report based on such evaluation; and |
d) | Disclosed in this report any change in the registrants internal control over financial reporting that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the registrants internal control over financial reporting; and |
5. | The registrants other certifying officer and I have disclosed to the registrants auditors and the audit committee of the registrants board of directors: |
a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrants ability to record, process, summarize, and report financial information; and |
b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrants internal control over financial reporting. |
Date: September 5, 2014 | /s/ Daniel W. Koors | |||||||||
By: | Daniel W. Koors | |||||||||
Treasurer and Principal Financial Officer |
Exhibit 12(b)
CERTIFICATION
Mark D. Nerud, President and Principal Executive Officer, and Daniel W. Koors, Treasurer and Principal Financial Officer of Montgomery Street Income Securities, Inc., each certify that to his knowledge:
1. | This Form N-CSR filing for the registrant fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and |
2. | The information contained in this Form N-CSR fairly presents, in all material respects, the financial condition and results of operations of the registrant. |
/s/ Mark D. Nerud | /s/ Daniel W. Koors | |
By: Mark D. Nerud | By: Daniel W. Koors | |
President and Principal Executive Officer | Treasurer and Principal Financial Officer | |
Date: September 5, 2014 | Date: September 5, 2014 |
This certificate is furnished pursuant to the requirements of Form N-CSR and shall not be deemed filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, and shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.
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