October 19, 2007

Dear Fellow Shareholder:

The third calendar quarter marked the worst three-month period in the short history of the Balanced Fund. The Fund’s total return for the quarter was -4.4% compared to a 2.4% return for our primary benchmark, the Blended Index^†. While the dreary short-term results are humbling, the Fund appears increasingly well-positioned to achieve its investment objectives over the longer term.

The following table shows the results of the Balanced Fund over various time periods through September 30, 2007, along with the Blended Index^†, the S&P 500 (stocks) and the Lehman Brothers Intermediate U.S. Government/Credit Index (bonds).

Portfolio Review

The third quarter was, in a word, lousy. While our investment style often leaves us temporarily out of step with the broader market, the recent performance gap has been unusually wide. The bright spot is that our research team uncovered several investment opportunities in the late summer market turmoil. We bought a handful of new stocks at compelling prices, tilting the Fund’s asset allocation to 62% stocks (up from 54% last quarter) and 38% bonds and short-term securities. These purchases have materially improved the Fund’s future return potential at acceptable risks.

The primary cause of the Fund’s third quarter decline in value was our mortgage-related stock investments (see the "Mortgage Market Meltdown" section of the equity funds letter for a detailed description of how we got here). Countrywide Financial (-47% for the quarter) and Redwood Trust (-30% for the quarter) had the largest dollar impact on Fund returns. While turbulence in the mortgage and credit markets is likely to continue, we are staying with our investments at this time.

Countrywide is clearly worth less than we thought six months ago, largely because the company turned out to have less control over its destiny than we believed. From here, our view is that the company has taken expensive but necessary steps to shore up its liquidity. We think that credit losses will accelerate but ultimately remain manageable, and that in time the core origination and servicing franchise should once again generate healthy margins and cash flows. The company remains very publicly under fire on many fronts, but at a price of $15 as of this writing, plenty of bad news is priced into the stock.

Redwood Trust, on the other hand, is firmly in control of its destiny. They have no liquidity issues and excess capital to invest as they see fit. The critical success factor for the investment has not changed – have they underwritten real estate credit risk well, and will they continue to do so in the future? The company’s track record is exceptional, and Brett Nicholas and his team are among the best in the business in the trenches. They and we are focused on actual credit losses rather than quarterly mark-to-market noise. If Redwood’s assets continue to perform in line with their expectations, the company will continue to distribute healthy dividends and the stock price will take care of itself.

Our largest new purchase in the quarter was Vulcan Materials, which anchors a diverse basket of new construction products stocks. Vulcan is a leading producer of aggregates, the crushed rock, sand and gravel used in highway construction, infrastructure projects, and commercial and residential construction. Aggregates production is a terrific business with high barriers to entry, limited supply, growing demand, no real substitutes and pricing power. Vulcan’s assets, including those at pending acquisition Florida Rock, are concentrated in attractive markets with strong population growth. The management team is experienced with an excellent track record in both operations and capital allocation. Our smaller investments in this sector include Eagle Materials (domestic cement and wallboard), Cemex (global cement, concrete and aggregates), and Beacon Roofing Supply (roofing materials distribution).

On the fixed income side, the credit quality of our bond portfolio remains excellent. We again increased the Fund’s allocation to high-quality, U.S. agency-eligible mortgage-backed securities (MBS) as spreads widened during the quarter. We continued to focus these MBS investments on securities with expected lives in the 3-5 year range and modest extension risk. These securities offer decent return potential with little risk of negative surprises. We admittedly passed on some relatively attractive opportunities in non-agency ("private label") MBS as bids temporarily dried up in those markets. We chose instead to concentrate most of the Fund’s risk-taking in equities where the potential returns are much higher.

While the economic environment is increasingly uncertain, we believe your portfolio is in solid shape. Our recent stock purchases have plenty of upside potential with good downside protection. We own more world-class companies with enduring competitive advantages than ever before. American Express, United Parcel Service and Vulcan Materials are but three examples. Our high-quality bond portfolio provides another layer of capital protection and steady cash flow. Finally, we still have cash at the ready if the economy deteriorates and our stocks get even cheaper.

All of us here have significant emotional and financial stakes in the Funds, and we look forward to reporting better news in the coming quarters. In the meantime, we appreciate your patience.

Regards,

Bradley P. Hinton
Portfolio Manager