Balanced Fund

Manager Commentary as of 12/31/09

The Buffalo Balanced Fund was up 4.46% in the quarter, outperforming its peers as tracked by the Lipper Balanced Fund Index which was up 3.65%. For the year ending 12/31/09, the fund was up 31.07%, outperforming the Index return of 23.35%. The fund also outperformed the index for the 3-, 5- and 10-year time periods.

Data represented reflects past performance and is no guarantee of future results. The investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original value. Current performance may be lower or higher than the performance quoted. Performance current to the most recent quarter end may be obtained by clicking here.

The fund had strong performance across its bond allocation, representing about 33% of the portfolio. During the December quarter, the high yield market continued the recovery that began earlier in the year. The strong returns in the high yield markets reflected investor sentiment that these securities offered a favorable risk/reward tradeoff in an environment in which the U.S. economy had bottomed and the belief that many companies were stabilizing and would eventually generate improved operating performance. The new issue market also remained active in the December quarter as many companies took advantage of investor demand to push out debt maturities and lower borrowing costs. Total new issuance in the quarter was $40bn and $160bn for the full year compared to only $1bn in the quarter ending December 2008 and $52bn for the full year 2008.

While the tone of the credit markets is healthy and many issuers have taken steps to greatly reduce liquidity risk, we remain cautiously optimistic looking into coming quarters. The economic environment remains sluggish, and many low-quality issuers (including those that have recently issued new debt at relatively low rates) are struggling with high debt levels. We believe the risk/reward tradeoff on many of these names is not adequate. Within this environment, our strategy is to focus on the higher-quality issuers that we believe are poised to outperform in a continued soft economy.

The bond portfolio companies are spread across a variety of industries. Our largest sector weightings include consumer, healthcare and energy.

The fund's bond allocation is invested in convertible bonds, convertible preferred and high-yield bonds. The fund buys mostly unsecured, high yield bonds with S&P ratings of BBB* or lower, feeling that our research team's depth, experience and expertise can add value in that area.

We believe there continue to be many investment opportunities in the high yield market that offer favorable risk/reward profiles. As we look to add new names to our fund, we remain focused on identifying companies that have the following credit characteristics: leading market positions in growth industries; high barriers to entry; sustainable margin structures; manageable balance sheet leverage; adequate liquidity; and improving credit metrics.

We continue to stay away from emerging market bonds, collateralized debt obligations, and most bonds issued in connection with leveraged buyouts.

Approximately 50% of the portfolio is in equities, which are actively managed with a goal of providing consistent income in addition to capital appreciation. Equity selection is focused on well-managed companies with conservative balance sheets and a history of continually growing their dividend payouts.

The fund continues to be overweight the energy sector, reflecting our belief that dividends will likely continue to be increased. Energy was the top contributing sector in the fund this quarter. All sectors were positive for the fund; the strongest contributors included consumer staples, financials and industrials.

The fund's stocks are actively managed with the goal of providing consistent increasing income plus capital appreciation, investing in a combination of stocks and bonds. The majority of equities chosen for this fund are income and/or value oriented. The fund looks for equities of companies that have increased their dividend at least every other year. We buy companies that appear to have good cash flows, stock repurchases and historically rising earnings.

Our portfolio is well-diversified with high-quality companies that have what we believe to be manageable leverage, are positioned to generate relatively stable cash flows, and have adequate liquidity in the current environment.

The fund remains well positioned, having generated high current income in an environment when interest rates are quite low, which also helps to buffer price volatility somewhat. The fund's current allocation between stocks and bonds and within various sectors remains favorable, in our view, for weathering a tough market and uncertain economic outlook.

*According to S&P, "An obligation rated 'BBB' exhibits adequate protection parameters. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the obligor to meet its financial commitment on the obligation."

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