As filed with Securities and Exchange Commission on September 6, 2011

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM N-CSR

CERTIFIED SHAREHOLDER REPORT OF REGISTERED
MANAGEMENT INVESTMENT COMPANIES

Kinetics Mutual Funds, Inc. & Kinetics Portfolios Trust

(Exact name of registrant as specified in charter)

555 Taxter Road, Suite 175
Elmsford, NY 10523

U.S. Bancorp Fund Services, LLC
615 E. Michigan Street
Milwaukee, WI 53202

(800) 930-3828

Date of fiscal year end: December 31, 2011

Date of reporting period: June 30, 2011

 

 

 

Item 1. Reports to Stockholders.

 

 

(Kinetics Mutual Funds, Inc. Logo)

 

 

 

Shareholders’ Letter

 

 

Dear Fellow Shareholders:

 

We are pleased to present the Kinetics Mutual Funds’ (“Funds”) Semi-Annual Report for the six-month period ended June 30, 2011. On balance, the Kinetics Family of Mutual Funds did not meet our expectations for the first half of 2011, with returns of 1.46% for The Paradigm Fund, (0.64)% for The Small Cap Opportunities Fund, 2.97% for The Market Opportunities Fund, 11.01% for The Internet Fund, 15.81% for The Medical Fund, 2.51% for The Water Infrastructure Fund, (1.93)% for The Global Fund, and 6.49% for The Multi-Disciplinary Fund. This compares with first-half 2011 returns of 6.02% and 4.55% for the S&P 500 Index and the NASDAQ Composite Index, respectively.

 

Developed equity markets have remained resilient thus far in 2011 despite natural disasters, speculation over the solvency of euro-zone sovereigns, turmoil in the Middle East and a continued disagreement in the U.S. Congress over spending levels and the debt ceiling. The pace of the global economic recovery has fallen short of many expectations and certainly most desires. However, many developed nations must now embark on a path toward debt and spending reductions, while remaining vigilant not to tip the economy back into contraction. As a result we expect markets to continue to be volatile until there is greater clarity with respect to government policies and corporate results. The encouraging news is that amid all of this uncertainty, U.S. corporations have reached an all time peak in profitability, and are expected by many to continue to produce compelling results. The Funds are positioned in durable businesses with dedicated management teams and conservative capital structures. The broad based markets will face continued headwinds, which will make individual business selection of paramount importance. We believe that such an environment is much to the advantage of our dedicated value Funds.

 

Shareholders can continue to access additional information from our website, www.kineticsfunds.com. This website provides a broad array of information, including recent portfolio holdings, quarterly investment commentaries, conference call transcripts, newsflashes, recent performance data, and online access to account information.

 

 

Kinetics offers the following funds to investors:

 

The Paradigm Fund focuses on companies that are valued attractively and currently have, or are expected to soon have, sustainable high business returns. The Fund has produced attractive returns since its inception in an environment that should be described as difficult for equity investors. The Paradigm Fund is Kinetics’ flagship fund.

 

The Small Cap Opportunities Fund focuses on undervalued and special situation small capitalization equities that have the potential for rewarding long-term investment results. The same investment fundamentals employed by The Paradigm Fund are used to identify such opportunities.

 

The Medical Fund is a sector fund, offering an investment in scientific discovery within the promising field of medical research, particularly in the development of cancer treatments and therapies. As a sector fund, The Medical Fund is likely to have heightened volatility.

 

The Internet Fund is a sector fund that focuses on companies engaged in the evolution of Internet-related developments. As such, this Fund has been, and is likely to continue to be, quite volatile. The Internet Fund is not designed to be a major component of one’s equity exposure. More recently, this Fund has been focusing on content companies, which we believe will be the winners in the next generation of Internet development.

 

The Global Fund’s mandate was changed in early April 2008 and is now focused on selecting long life cycle international companies that can generate long-term wealth through their business operations. This Fund is presently finding exciting opportunities in the more developed markets.

 

The Market Opportunities Fund focuses on those companies that benefit from increasing transactional volume or throughput, such as publicly-traded exchanges and credit card processors, or companies that act as facilitators, such as gaming companies, airports and publicly-traded toll roads.

 

 

The Water Infrastructure Fund incorporates a blended strategy that invests in global companies engaged in water infrastructure and water-specific natural resources, as well as related activities. To supplement the equity investments, the Fund also utilizes The Multi-Disciplinary Fund’s options strategy employed upon water businesses. This provides the Fund equity exposure and exposure to the water industry, complemented by income from put options.

 

The Multi-Disciplinary Fund seeks to utilize stock options and fixed-income investments in order to provide investors with equity-like returns, but with more muted volatility. At times, the options strategies of the Fund may cause the manager to purchase equity securities.

 

Peter B. Doyle

President

Kinetics Mutual Funds, Inc.

 

 

Investment Commentary

 

 

Dear Fellow Shareholders:

 

As we began penning this semi-annual letter, we felt compelled to reference our comments from mid-year 2010. In that letter, we made several market observations that could just as easily have been referring to current capital markets in 2011. Media outlets, politicians and financial professionals have returned their collective focus to the finances of various European nations, after not paying much attention to the topic for some months prior. In the 2010 letter, we had the benefit of writing in early August, far enough after quarter end for investors to have calmed their anxiety regarding these issues. It now appears that these concerns may not dissipate as quickly and easily as they did last year, and that a long-term solution is what these nations ultimately require for long-term growth and stability.

 

In last year’s semi-annual letter, we also commented on what we believed to be a “bubble in pessimism” that resulted in 10-year U.S. Treasury Notes offering a pre-tax yield of merely 2.72%. In the past 12 months, 10-year Notes have appreciated slightly and now offer a marginally higher pre-tax yield of 3.35%. Once this return is taxed and impacted for inflation, the real return is likely to be near breakeven. Investors must be expecting a very dire economic scenario in order to accept such mediocre returns. The general risk aversion and appetite for low-yielding U.S. Government securities has changed very little over the past year.

 

Despite the familiar financial landscape reminiscent of mid-year 2010, many factors have changed markedly over the past 12 months. The S&P 500 Index has climbed 30.69% since June 30, 2010 and the cash balances of the S&P 500 companies have increased an additional 12.92% in aggregate. Cash now represents approximately 21.50% of the S&P 500 Index valuation. Large corporate cash balances are comforting to fixed income investors, regulators and unnerved management teams. However, these large cash positions earn effectively nothing after taxes and inflation are considered, and are not an effective use of company capital. We have been disillusioned by the overly conservative capital management of many U.S. and multi-national corporations, which has contributed to our desire to seek out proactive managements that

 

 

were able to improve their respective companies over the past several years, including during the crisis of 2008.

 

In our search for superior businesses we came across a common factor shared by nearly all of the companies: an “owner-operator.” We define owner-operator companies as follows: At owner-operator companies, decisions are made by a principal or owner rather than by agents or hired managers. The latter must manage their careers in relation to the short-term reactive expectations of shareholders and analysts, and must abide by arbitrarily set benchmarks including market share and revenue growth. They are reluctant to invest in their businesses during times of great economic uncertainty. Conversely, owner-operators are secure in their positions and are vested in the long-term success of their companies, and accordingly they tend to base their actions on long-term return-on-capital considerations. They have the strategic flexibility for choosing capital structures that enhance returns and limit risk. Owner-operators can choose to remain in a given business or to allocate capital elsewhere. They are positioned to take advantage of economically uncertain times and the investment opportunities they present, often at fire-sale prices. Owner-operated businesses exist in nearly every country and industry and range from very small micro-cap companies to enormous multi-national corporations. These businesses have demonstrated the ability to build shareholder value and maintain a focus on the long-term enhancement of the business. As such, it should come as no surprise that these companies have vastly outperformed the markets at large over the long term.

 

The investment team at Kinetics is in the process of incrementally increasing exposure to owner-operators in all of the portfolios. Although we did not employ the owner-operator moniker until recently, for years the portfolios have owned companies that meet this description including Berkshire Hathaway, Brookfield Asset Management, Icahn Enterprises and many more. We believe that an emphasis on these investment opportunities will be to the long-term benefit of our investors. As our long-term shareholders are aware, we are generally averse to frequent trading and take great

 

 

pains to ensure that we have conviction that our decision to trade will result in favorable performance for our shareholders.

 

We believe that the owner-operator companies being purchased for our Funds have superior, shareholder interest-oriented managements to supplement very attractive business models. An observer could reasonably suppose that these companies would trade at valuation multiples well in excess of that of the market. Historically this has been the case. However, at present these companies in aggregate trade at a substantial discount to the major indexes and average peer corporations. We believe that this may be a byproduct of the proliferation of ETFs, which focus on float-adjusted share counts. Any company that actively buys back shares, reducing its float, becomes a lower weight for any indexes or ETFs that adjust based on share float. This reduction in weight in the portfolio is typically the opposite of the action that investors should take in this circumstance, as share repurchases reflect management’s belief in the value of the company shares. In any event, even without multiple expansions, many of these businesses have returns on equity near 15% and have historically grown book value at similar rates. Thus, the businesses can compound at very attractive rates for shareholders simply through the operations of the company.

 

Our Multi-Disciplinary Fund has continued to grow assets and has achieved strong performance with dampened volatility relative to the S&P 500 Index. Investors who are hesitant to invest in long-term equity products should review the prospectus for this Fund to learn more. The unique options strategy utilized by the Fund has been very effective, particularly applied to the aforementioned owner-operator companies.

 

As always, we appreciate the continued support and confidence of our shareholders. The investment environment remains somewhat uncertain due to a myriad of political and macroeconomic forces. Investing in owner-operated businesses offers what we believe to be a very attractive risk-adjusted return potential, especially

 

 

considering the resilience and opportunistic nature of their management teams.

 

Peter B. Doyle

Chief Investment Strategist

Disclosure

This material is intended to be reviewed in conjunction with a current prospectus, which includes all fees and expenses that apply to a continued investment program, as well as information regarding the risk factors, policies and objectives of the Funds. Read it carefully before investing.

 

Mutual Fund investing involves risk. Principal loss is possible. Because The Internet Fund, The Medical Fund and The Water Infrastructure Fund invest in a single industry, their shares are subject to a higher degree of risk than funds with a higher level of diversification. Internet and biotechnology stocks are subject to a rate of change in technology, obsolescence and competition that is generally higher than that of other industries and have experienced extreme price and volume fluctuations. International investing [for The Global Fund, The Water Infrastructure Fund, The Paradigm Fund, The Market Opportunities Fund, The Small Cap Opportunities Fund, and The Internet Fund] presents special risks including currency exchange fluctuation, government regulations, and the potential for political and economic instability. Accordingly, the share price for these Funds is expected to be more volatile than that of a U.S.-only fund. Past performance is no guarantee of future performance.

 

Because smaller companies [for The Global Fund, The Small Cap Opportunities Fund and The Water Infrastructure Fund] often have narrower markets and limited financial resources, they present more risk than larger, more well established, companies.

 

Non-investment grade debt securities [for all Funds], i.e., junk bonds, are subject to greater credit risk, price volatility and risk of loss than investment grade securities. Further, options contain special risks including the imperfect correlation between the value of the option and the value of the underlying asset. Investments [for all Funds] in futures, swaps and other derivative instruments may result in loss as derivative instruments may be illiquid, difficult to price and leveraged so that small changes may produce disproportionate losses to the Fund. To the extent the Funds segregate assets to cover derivative positions, they may impair their ability to meet current obligations, to honor requests for redemption and to manage the Funds in a manner consistent with their respective investment objectives. Purchasing and writing put and call options and, in particular, writing “uncovered” options are highly specialized activities that entail greater than ordinary investment risk.

As non-diversified Funds, the value of Fund shares may fluctuate more than shares invested in a broader range of industries and companies.

 

Unlike other investment companies that directly acquire and manage their own portfolios of securities, The Kinetics Mutual Funds pursue their investment objectives by investing all or generally all of their investable assets in a corresponding portfolio series of Kinetics Portfolios Trust.

 

The information concerning the Funds included in the shareholder report contains certain forward-looking statements about the factors that may affect the performance of the Funds in the future. These statements are based on Fund management’s predictions and expectations concerning certain future events and their expected impact on the Funds, such as performance of the economy as a whole and of specific industry sectors, changes in the levels of interest rates, the impact of developing world events, and other factors that may influence the future performance of the Funds. Management believes these forward-looking statements to be reasonable, although they are inherently uncertain and difficult to predict. Actual events may cause adjustments in portfolio management strategies from those currently expected to be employed.

 

Portfolio composition is subject to change at any time.

 

The NASDAQ Composite (NASDAQ) and the Standard & Poor’s 500 Index (S&P 500) each represent an unmanaged, broad-basket of stocks. They are typically used as a proxy for overall market performance.

 

Distributor: Kinetics Funds Distributor, LLC is not an affiliate of Kinetics Mutual Funds, Inc. Kinetics Funds Distributor, LLC is an affiliate of Kinetics Asset Management, LLC, Investment Adviser to Kinetics Mutual Funds, Inc.

 

For more information, log onto www.kineticsfunds.com.

 

July 1, 2011 — Kinetics Asset Management, LLC.

 

 

 

Shareholders incur two types of costs: (1) transaction costs, including sales charges (loads) on purchase payments, reinvestments of dividends or other distributions made by a Fund, redemption fees, and exchange fees, and (2), ongoing costs, including management fees, distribution and/or service (12b-1) fees, and other Fund expenses. This example is intended to help investors understand the ongoing costs (in dollars) of investing in the Feeder Funds, as defined below, and to compare these costs with the ongoing costs of investing in other mutual funds. The example is based on an investment of $1,000 invested on January 1, 2011 and held for the entire period from January 1, 2011 to June 30, 2011.

 

Actual Expenses

 

The first line and second line items of the table below provide information about actual account values and actual expenses before and after expense reimbursement. Unlike other mutual funds that directly acquire and manage their own portfolio securities, each Feeder Fund invests all or generally all of its investable assets in a corresponding series of The Kinetics Portfolios Trust (each, a “Master Portfolio”, and together the “Master Portfolios”), a separately registered investment company. The Master Portfolio, in turn, invests in securities. With this type of organization, expenses can accrue specifically to the Master Portfolio or the Feeder Fund or both. The Adviser for the Master Portfolios has directed a certain amount of the Master Portfolio’s trades to brokers believed to provide the best execution and, as a result, the Master Portfolios have generated direct brokerage credits to reduce certain service provider fees. Each Feeder Fund records its proportionate share of the Master Portfolio’s expenses, including directed brokerage credits, on a daily basis. Any expense reductions include Feeder Fund-specific expenses as well as the expenses allocated from the Master Portfolio.

 

The Feeder Funds will charge shareholder fees for outgoing wire transfers, returned checks, and exchanges executed by telephone between the Feeder Fund and any other series of Kinetics Mutual Funds, Inc. The Feeder Funds’ transfer agent charges a $5.00 transaction fee to shareholder accounts for telephone exchanges between any two series of Kinetics Mutual Funds, Inc. The Feeder Funds’ transfer agent does not charge a transaction fee for written exchange requests. IRA accounts are assessed a $15.00 annual fee. Finally, as a disincentive to market-timing transactions, the Feeder Funds will assess a 2.00% fee on the redemption or exchange of Fund shares held for less than 30 days. These fees will be paid to the Feeder Funds to help offset transaction costs. The Feeder Funds reserve the right to waive the redemption fee, subject

 

 

to their sole discretion, in instances deemed not to be disadvantageous to the Feeder Funds or shareholders as described in the Funds’ prospectus.

 

You may use the information provided in the first line, together with the amounts you invested, to estimate the expenses that you paid over the period. Simply divide your account value by $1,000 (for example, an $8,600 account value divided by $1,000 = 8.6), then multiply the result by the number in the first line under the heading entitled “Expenses Paid During Period” to estimate the expenses you paid on your account during this period.

 

Hypothetical Example for Comparison Purposes

 

The third and fourth line items of the table below provide information about hypothetical account values and hypothetical expenses before and after expense reimbursements based on the Feeder Funds’ actual expense ratio and an assumed rate of return of 5% per year before expenses, which are not the Feeder Funds’ actual returns. The hypothetical account values and expenses may not be used to estimate the actual ending account balance or expenses one paid for the period. You may use this information to compare the ongoing costs of investing in the Feeder Funds and other funds. To do so, compare this 5% hypothetical example with the 5% hypothetical examples that appear in the shareholder reports of the other funds. Please note that the expenses shown in the table are meant to highlight one’s ongoing costs only and do not reflect any transactional costs, such as sales charges (loads), redemption fees, or exchange fees. Therefore, the second line of the table is useful in comparing ongoing costs only, and will not help one determine the relative total costs of owning different funds. In if these transactional costs were included, one’s costs would have been higher.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these financial statements.

 

 

 

 

 

The accompanying notes are an integral part of these financial statements.

 

 

 

 

 

The accompanying notes are an integral part of these financial statements.

 

 

 

The accompanying notes are an integral part of these financial statements.

 

 

The accompanying notes are an integral part of these financial statements.

 

 

 

The accompanying notes are an integral part of these financial statements.

 

 

 

The accompanying notes are an integral part of these financial statements.