THE OAKMARK INTERNATIONAL AND OAKMARK INTERNATIONAL SMALL CAP FUNDS

Fellow Shareholders,

Despite volatile equity markets during the past quarter, The Oakmark International Fund and The Oakmark International Small Cap Fund performed well. Year to date, both Funds are outpacing comparable international market indices. Please see the individual Fund letters for more specific performance information.

Haunted Markets

A strong whiff of fear floated through the global equity markets over the past quarter as investors' and speculators' attention turned to rising interest rates and fears of inflation. Those sectors that have rode a strong wave of upward momentum over the past few years were especially hard hit, including emerging markets stocks, small caps, cyclicals, and resources. Indeed, many of these sectors were looking very pricey. A correction was to be expected because recent performance was unsustainable and because many companies were selling at valuation levels that were not consistent with their long-term growth prospects.

Ironically, many pundits associated rising interest rates with the resurgence of inflation, and they ignored the fact that rates went up in order to prevent inflation. Let's not forget that only a few years ago rates were aggressively lowered in Japan, the U.S., and Europe to fight deflation fears. Such fears were legitimate. Japan had experienced deflation, Germany was close to it, and many believed that the U.S. was poised for deflation post-9/11. As a result, the world was flooded with liquidity and began to grow mainly because of the U.S. and emerging markets.

Today, global central banks are responsibly mopping up this excess liquidity while the world, in our opinion and despite high-energy prices, is growing in a more balanced fashion. This balanced growth is occurring as the world's second and third largest economies, Japan and Germany, are finally rebounding. Sadly, the sustainability of Japan's growth remains in question because significant reforms are still needed. Germany, however, seems to have real potential for long-term growth in our view, though some surrounding areas, such as France and Italy, still seem stalled economically.

Overall, despite weakened share prices, foreign companies continue to generate profit and cash flow growth, and we believe that investment opportunities for long-term value investors have improved. We welcome market instability and weakness because they make quality companies selling at low prices easier to find.