Commentary

Global Market Review

International markets fell during the second quarter as the U.S. Fed drove interest rates higher and investors' fears of long-term inflation were magnified by the short-term numbers. A flight to quality was evident in most corners of the financial markets, driven by a coordinated move to reduce leverage in the global economy and a widespread reduction in liquidity around the world. Investors fled to securities with more defensive characteristics: value over growth, large-cap over small- and mid-cap, and, in the international realm, developed markets over emerging markets. For the quarter, the MSCI EAFE Index¹ returned -0.26%, while the MSCI Emerging Markets Index² was down 5.11%.

Within developed markets, Japan and the United States underperformed, while European countries, on average, held up much better. The United Kingdom, Switzerland and Spain were among the best performers in Europe for the quarter. Within emerging markets, emerging Europe and the Middle East underperformed, while emerging Asia and Latin America performed better. In the international markets, a weaker dollar during the quarter actually helped performance.

Equities were down by the greatest measure during the quarter and issues within economically-sensitive sectors—such as Information Technology and Financials—saw the most drastic declines. Convertibles, on the other hand, showed the benefits of their hybrid nature, and they held value much better than equities in the period.

Because the market is questioning growth in global markets, our portfolios declined more than the general market for the quarter. While our growth-oriented stance was beneficial to performance during the first quarter of 2006, our weighting in growth securities did hurt us in the second quarter. Nonetheless, we remain geared for growth and we believe our positioning, when the markets bounce out of this negative phase, will lead to a strong comeback in the Calamos Global and International portfolios. That bounce could happen once the Fed stops its rate hiking phase, a change that we believe is near. In the U.S., the core rate of CPI inflation is now at 2.4% and the 10-year average core rate was 2.3%—so we're at a level of inflation that's consistent with historical numbers. Although the tightening phase may cause some degree of pain for certain types of investments in the short term, we believe the long-term growth picture is still intact.

We're still finding good companies in the international markets and in this mid- to late-phase of the economic cycle, we're focusing on secular themes and we're leaning toward mid-cap issues. Among equities, we're looking for companies with low debt, high ROIC and sustainable growth. Within the convertible space, convertibles continue to grow toward fair value and while they remain undervalued, we see unique buying opportunities around the globe.

In the global markets, we are focusing on several investment themes that we believe will impact the international economy going forward, such as:

• the surging global need to outsource or significantly enhance productivity
• global connectivity
• global media and entertainment
• supply-side business models
• global demographic and wealth shifts
• energy and commodity dislocations
• the global march towards democracy and global trade

Despite the difficulties of the second quarter, we still believe the international markets are an important aspect of a long-term plan for wealth creation. Although we're watching world events and the financial markets closely for indications of any drastic changes in the near term, we're still targeting our investments six to twelve months out. As it has in the past, we believe this long-term stance will continue to benefit us in the future.