THE OAKMARK EQUITY AND INCOME FUND Report from Clyde S. McGregor and Edward A. Studzinski, Portfolio Managers

THE VALUE OF A $10,000 INVESTMENT IN THE OAKMARK EQUITY AND INCOME FUND FROM ITS INCEPTION (11/1/95) TO PRESENT (3/31/07) AS COMPARED TO THE LIPPER BALANCED FUND INDEX9
		Average Annual Total Returns (as of 3/31/07)
	Total Return Last 3 Months*	1-year	5-year	10-year	Since Inception (11/1/95)
Oakmark Equity & Income Fund (Class I)	3.21%	12.13%	9.67%	13.30%	13.49%
Lipper Balanced Fund Index	1.56%	9.78%	6.71%	7.55%	8.18%
S&P 5003	0.64%	11.83%	6.27%	8.20%	9.91%
Lehman Govt./Corp. Bond10	1.47%	6.38%	5.57%	6.51%	6.12%
The graph and table do not reflect the deduction of taxes that a shareholder would pay on fund distributions or the redemption of fund shares.
Expense Ratio as of 9/30/06 was 0.86%.
The performance data quoted represents past performance. The above performance information for the Fund does not reflect the imposition of a 2% redemption fee on shares held for 90 days or less to deter market timers. If reflected, the fee would reduce the performance quoted. Past performance does not guarantee future results. The investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data quoted. Average annual total return measures annualized change, while total return measures aggregate change. To obtain most recent month-end performance data, visit oakmark.com.
* Not annualized

Quarter Review

The Equity and Income Fund achieved a return of 3% in the quarter ended March 31, 2007 which contrasts to the 2% that Lipper reported for its Balanced Fund Index. For the first six months of the current fiscal year, the comparison is 8% for the Fund and 7% for the Lipper Balanced Fund Index. We are most pleased to report a return of 13% compounded annually since inception for the Fund. Important contributors in the quarter included XTO Energy (outstanding fundamental results), Caremark (CVS/Express Scripts takeover battle), EchoStar Communications (results exceeded forecast), and Ceridian (activist investor agitation). Significant losers for the quarter included Scripps (poor print media trends), MBIA (speculation that the turmoil in mortgages could hurt the insurers of derivative instruments), Progressive (earnings deceleration), and Medtronic (problems regarding both stent efficacy and the company’s Physio-Control unit).

As the quarter began, equity strategists’ favorite topic was the low level of volatility that the stock market had enjoyed throughout 2006. Many commentators had been predicting that the market was “due for a correction.” Stock market parlance normally defines correction as a 10% decline from a previous high, and the most recent 10% or greater decline took place in early 2003 before the Iraq invasion. Forecasters speculated about many different catalysts for the impending correction, most involving the geopolitical picture or possible interest rate changes. Looking back at the quarter, developments in China and Japan appear to have inspired a stock market tumble in late February, and the market has remained somewhat turbulent since.

Was this “the correction” that was so well anticipated? Not in the classic sense, as the various market indices experienced a maximum decline (so far, anyway) of only 6-7% from their highs attained in early February. Statistics strongly suggest that hedge funds are the current dominant force behind trading activity in the securities markets. It is plausible that hedge funds collectively act to dampen volatility, both up and down, and that in this new hedge fund era old rules concerning such things as corrections are not meaningful.

We were moderately active in the quarter, initiating positions in Ingersoll-Rand, Foot Locker, and Express Scripts, while eliminating the small positions in Rockwell Collins and Smithfield Foods. After a bitterly contested takeover battle, CVS, the drugstore chain, won control of Fund holding Caremark, a leading pharmacy benefit manager. The Fund’s Caremark shares are now shares of CVS/Caremark. While the battle for Caremark raged, we spent time with the management teams from each of the principal actors. We came away impressed with all of them and, more importantly, with a heightened appreciation for the strengths of the pharmacy benefit management (PBM) industry. In particular, we have concluded that the development of biogenerics (generic versions of biological pharmaceuticals) may be transformative for the PBMs. In the past, we have usually found Express Scripts’ stock valuation to be expensive. Our opportunity to purchase shares on better terms arose when the market’s February turbulence combined with investor fears that Express Scripts would overpay in the bidding war for Caremark. In contrast, Ingersoll-Rand and Foot Locker are more traditional names for value investors. Ingersoll-Rand is an old-line industrial company that has evolved substantially under new management. We believe that the market price does not fully recognize this evolution to higher margin, less cyclical businesses. Foot Locker, the shoe retailer, is simply an unpopular, cheap stock in an industry subject to the vagaries of fashion.

Balance Issues

Shareholder e-mails often help to suggest issues warranting attention in our quarterly letters. Lately, we have received questions concerning our approach to balancing the Fund between stocks and bonds. The Fund ended the quarter almost exactly on an asset allocation of 60% equity, 40% fixed income and cash. As we have often written, history has shown that a 60/40 allocation is psychologically sustainable for most people in times of financial market stress. As well, a 60/40 balance helps to mediate between the competing goals of current income and capital growth.

While 60/40 is the Fund’s central asset allocation tendency, the percentages do move around. This movement is not the result of top-down “macro” thinking but is merely the cumulative effect of many decisions on individual securities. Each day your managers are trying to answer the question, “What are the dominant investment opportunities available to this Fund and is the allocation to those securities optimal for the Fund’s objectives of income and preservation and growth of capital?” If the aggregation of these decisions pushes the Fund’s equity allocation up to 65%, we realize that we have found equities to be dominant. If we are not finding abundant and compelling equity opportunities, the equity allocation will drift down toward 50%.

The same analysis is applicable to our thinking about industry sectors within the equity portfolio. At various times in the Fund’s history, concentrated positions in industries have emerged, but never did this outcome develop because we intentionally overweighted a sector. Rather, the industries themselves became so undervalued and fundamentally attractive that our analysts perforce identified ample individual opportunities.

Within the fixed income universe, we attempt to apply the same bottom-up thinking to build a portfolio that best complements the Fund’s equity exposures. Early in the Fund’s history we often wrote about our fixed income “quality barbell” strategy. This simply meant that we owned fixed income securities that the rating agencies evaluated as either low-grade or high-grade with nothing in between. This strategy served the portfolio well in the 1990s, but the current decade has witnessed yield compression such that we no longer find low-grade securities to offer good value.

As well, we usually find mortgage backed securities unattractive. Mortgage backed issues suffer from “negative convexity,” a wonderful term that can be reduced to “heads I win, tails you lose.” In practice, it means that when rates fall, homeowners refinance for lower rates, so the owner of the security that holds mortgages gets funds back precisely when they do not want them. Conversely, rising rates inhibit refinancing, which leaves the security owner holding a less attractive issue. It is negative convexity that discourages your Fund’s managers from investing in this type of security, rather than a particular belief about the problems now emerging in the housing sector. In fact, during the recent turmoil in the sub-prime mortgage sector we have attempted to determine if opportunities were emerging to buy securities at fire-sale prices. To date this search has been unproductive.

All of The Oakmark Funds base their investing activity on the idea of fundamental or intrinsic value. Fixed income securities do develop pricing inefficiencies, but rarely to the degree available in equities. The proliferation of specialist fixed income managers has made these opportunities even more limited and fleeting. Accordingly, we generally choose to have the Fund take on risk in the equity portfolio where the rewards for successful analysis are far greater.

So, what should an investor expect today in terms of asset allocation for the Equity and Income Fund? Absent major investing environment change, the Fund will continue as it always has, with the equity allocation moving between its prospectus limits of 50 to 75% based on our ability to populate the portfolio with dominant value opportunities. For now the fixed income allocation is likely to remain heavily oriented to U.S. Treasury issues, but we will always be looking for occasions to purchase riskier fixed income holdings when value is available.

As always, we thank you for entrusting us with your assets and welcome your questions or comments.

Schedule of Investments—March 31, 2007 (Unaudited)