Mid cap value stocks achieved solid double-digit advances in the third quarter with the NFJ Mid Cap Value Fund outperforming its benchmark, the Russell Midcap Value Index. Stock selection decisions in the industrials and technology sectors contributed most significantly to outperformance for the period. Selections among utilities stocks also benefited relative returns. An underweight position in the financials sector, combined with stock selections among that group, detracted from relative returns as did an overweight position in the consumer staples sector.

Capital Markets

U.S. equity markets advanced solidly in the third quarter, adding to gains for the year and recovering more of the value lost in the 16-month bear market that ended in March. Although economic growth remained subdued, investors showed newfound enthusiasm for riskier assets, bidding up stock prices especially in the beaten-down financials and materials sectors. During the quarter, value and growth indexes spanning all capitalization segments recorded double-digit returns with value stocks somewhat more in favor. Among value indexes, all sectors registered positive returns with stocks in the financials and industrials sectors contributing most significantly to gains. Utilities and telecommunications stocks posted positive returns but underperformed value indexes.

Signs of a nascent economic recovery and an upturn in demand served to boost share prices for companies in the industrials sector, which had been extremely hard hit by recession. The Fund’s positions in printer R.R. Donnelley and transport giant Ryder Systems significantly outperformed the market and the sector in the period. Donnelley, the nation’s largest printer, saw share prices advance despite reports of lower quarterly profits. The company’s cost-cutting initiatives have improved liquidity and cash flow and have enabled Donnelley to reduce debt. Quarterly earnings also fell for global transportation leader Ryder Systems as management predicted the current freight recession will last through the remainder of 2009. However the company’s shares advanced on optimism that a rebounding economy will boost demand for used trucks. Ryder is the largest retailer of used trucks in the U.S.

Among technology companies, shares of the contract manufacturer Jabil Circuit rallied after the company announced earnings above analysts’ expectations. After three consecutive losing quarters, Jabil delivered profits despite lower sales. Management raised its full-year guidance on expectations that markets will continue to improve.

Among financials stocks, unprecedented levels of liquidity and improving sentiment for economic recovery buoyed investor demand for shares of lower-quality companies whose stocks had been especially hard hit during the bear market. In this environment, the Fund’s positions in regional banks, auto insurers and capital markets firms underperformed. Also, while the U.S. Federal Reserve has moved aggressively to stabilize larger banks, they have continued to allow smaller banks to close. This prompted analyst concerns during the period about rising loan loss provisions at regional mid-sized banks. This caused Associated Banc-Corp, a Fund holding, to experience analyst downgrades and an erosion of its share price.

We expect equity returns to moderate in coming quarters as the effects of cost-cutting initiatives by U.S. corporations run their course and the challenges presented by subdued economic growth and growing unemployment limit further improvements in company fundamentals. We believe that this emerging environment of flat-to-modest market returns will favor managers with demonstrable stock selection skills and companies with durable franchises, solid balance sheets and a commitment to paying dividends. We continue to fully invest our Funds in stocks exhibiting these characteristics along with the potential for stable future cash flows.