NUVEEN INVESTMENTS ANNOUNCES STRATEGIC COMBINATION WITH FAF ADVISORS

 

On July 29, 2010, Nuveen Investments, Inc. announced that U.S. Bancorp will receive a 9.5% stake in Nuveen Investments and cash consideration in exchange for the long-term asset business of U.S. Bancorp’s FAF Advisors (FAF). Nuveen Investments is the parent of Nuveen Asset Management (NAM), the investment adviser for the Funds included in this report.

 

FAF Advisors, which currently manages about $25 billion of long-term assets and serves as the advisor of the First American Funds, will be combined with NAM, which currently manages about $75 billion in municipal fixed income assets. Upon completion of the transaction, Nuveen Investments, which currently manages about $150 billion of assets across several high-quality affiliates, will manage a combined total of about $175 billion in institutional and retail assets.

 

This combination will not affect the investment objectives, strategies or policies of this Fund. Over time, Nuveen Investments expects that the combination will provide even more ways to meet the needs of investors who work with financial advisors and consultants by enhancing the multi-boutique model of Nuveen Investments, which also includes highly respected investment teams at NWQ Investment Management, Santa Barbara Asset Management, Symphony Asset Management, Tradewinds Global Investors, Winslow Capital and Nuveen HydePark.

 

The transaction is expected to close late in 2010, subject to customary conditions.

 

Chairman’s
Letter to Shareholders

 

 

Dear Shareholder,

 

The economic environment in which your Fund operates reflects continuing but uneven economic recovery. The U.S. and other major industrial countries are experiencing steady but comparatively low levels of economic growth, while emerging market countries are seeing a resumption of relatively strong economic expansion. The potential impact of steps being considered by many governments to counteract the extraordinary governmental spending and credit expansion to deal with the recent financial and economic crisis is injecting uncertainty into global financial markets. The implications for future tax rates, government spending, interest rates and the pace of economic recovery in the U.S. and other leading economies are extremely difficult to predict at the present time. The long term health of the global economy depends on restoring some measure of fiscal discipline around the world, but since all of the corrective steps require economic pain, it is not surprising that governments are reluctant to undertake them.

 

In the near term, governments remain committed to furthering economic recovery and realizing a meaningful reduction in their national unemployment rates. Such an environment should produce continued economic growth and, consequently, attractive investment opportunities. Over the longer term, the larger uncertainty mentioned earlier carries the risk of unexpected potholes in the road to sustained recovery. For this reason, Nuveen’s investment management teams are working hard to balance return and risk by building well-diversified portfolios, among other strategies. I encourage you to read the following commentary on the management of your Fund. As always, I also encourage you to contact your financial consultant if you have any questions about your Nuveen Fund investment. Please consult the Nuveen website for the most recent information on your Nuveen Fund at: www.nuveen.com.

 

On behalf of the other members of your Fund’s Board, we look forward to continuing to earn your trust in the months and years ahead.

 

Sincerely,

Robert P. Bremner

Chairman of the Board

August 17, 2010

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Portfolio Managers’ Comments

 

 

Nuveen Diversified Dividend and Income Fund (JDD)

 

JDD features portfolio management by teams at four separate sub-advisers.

 

NWQ Investment Management Company, LLC, an affiliate of Nuveen Investments, invests its portion of the Fund’s assets primarily in dividend-paying common stocks. Jon Bosse, Chief Investment Officer of NWQ, leads the Fund’s management team at that firm. He has more than 27 years of corporate finance and investment management experience.

 

The real estate portion of the Fund’s investment portfolio is managed by a team at Security Capital Research & Management Incorporated, a wholly-owned subsidiary of JPMorgan Chase & Co. Anthony R. Manno Jr., Kenneth D. Statz and Kevin Bedell, who each have more than 20 of years experience in managing real estate investments, lead the team.

 

Symphony Asset Management, LLC, an affiliate of Nuveen Investments, invests its portion of the Fund’s assets primarily in senior loans. The Symphony team is led by Gunther Stein, Symphony’s Chief Investment Officer. Gunther has more than 20 years of investment management experience.

 

Wellington Management Company, LLP, invests its portion of the Fund’s assets in emerging markets sovereign debt. James W. Valone, who has more than 18 years of investment management experience, heads the team.

 

Here representatives from NWQ, Security Capital, Symphony and Wellington Management talk about their management strategies and the performance of the Fund for the six-month period ending June 30, 2010.

 

 

What key strategies were used to manage the Fund over this reporting period?

 

The Fund’s investment objectives are high current income and total return. The Fund seeks to achieve these objectives by investing primarily in 1) U.S. and foreign dividend-paying common stocks, 2) dividend-paying common stocks issued by real estate companies, 3) senior secured loans, and 4) emerging markets sovereign debt. Under normal circumstances, the Fund’s target weighting is approximately 50% equity and 50% debt.

 

For the dividend-paying equity portion of the Fund’s portfolio managed by NWQ, we continued to employ an opportunistic, bottom-up strategy that focused on identifying undervalued companies possessing favorable risk/reward characteristics as well as emerging catalysts that can unlock value or improve profitability. These catalysts included management changes, restructuring efforts, recognition of hidden assets, or a positive change in the underlying fundamentals. We also focused on downside protection, and paid a great deal of attention to a company’s balance sheet and cash flow statement, not just the income statement. We believed that cash flow analysis offered a more objective and truer picture of a company’s financial position than an evaluation based on earnings alone.

4		Nuveen Investments

 

Coming into this period, we had expected to profit significantly from recapitalization opportunities that began to develop over the course of 2009. However, the magnitude of the increase in the equity markets, particularly in most finance stocks from March to mid-May, made further investments in these shares much less attractive. Prior to the spring 2010 rally, the market viewed any company needing capital as almost un-investable. We saw this disconnect as an opportunity that we could turn to our advantage. In fact, the finance sector has been among the poorest performing groups since the initial rally in the spring of 2009, with many companies’ shares trading below the prices of their secondary offerings. We opportunistically made several investments in financial companies in the second half of 2009, and adjusted our position in 2010 as these stocks reached our targets or circumstances changed.

 

We also continued to benefit from a change in the Fund’s investment policies. In February 2009, the Fund’s Board approved allowing NWQ to invest up to 5% of its portion of the Fund’s assets in emerging market equity securities. Shortly before, several Fund holdings had been reclassified as emerging market securities, and this change allowed the Fund to retain these positions.

 

In managing the real estate portion of the portfolio managed by Security Capital, we sought to maintain significant property type and geographic diversification while taking into account company credit quality, sector, and security-type allocations. Investment decisions were based on a multi-layered analysis of the company, the real estate it owned, its management, and the relative price of the security, with a focus on securities that we believed would be best positioned to generate sustainable income and potential price appreciation over the long run. Across all real estate sectors, we favored companies with properties located in the strongest urban locations. These “high barrier to entry” markets often have constraints that limit new construction, a quality that we believe over the long-term has the potential to provide superior value enhancement and a real inflation hedge.

 

In the senior loan and other debt portion of the Fund’s portfolio managed by Symphony, we focused on macro, technical and fundamental factors. While the market consensus is that fundamentals will remain stable for the next several quarters, with below-average default rates and some level of growth in the economy, we will continue to look at the whole picture to assess risk. In second half of 2012 and into 2013, the senior loan market will see significant maturities. How companies deal with this “wall” of maturities will be a function both of the general economic environment as well as company-specific factors. Monitoring both will be critical to navigating the market, which we believe may hold significant value potential for income-seeking investors who are concerned about rising interest rates. Regardless, floating rate senior loans will continue to play a critical role in the credit market as companies look to refinance, de-leverage, or in some cases expand their businesses.

 

In the emerging market debt portion of the Fund managed by Wellington Management, we the period by increasing our allocation to select lower-quality countries with improving fundamentals and favorable valuations. However, as concerns about European sovereign risk and the sustainability of the global economic recovery heightened, we adopted a more defensive portfolio posture, increasing our cash allocation moderately and emphasizing higher-quality names likely to outperform in a tumultuous environment.

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How did the Fund perform over the six-month period?

 

The performance of JDD, as well as a comparative benchmark and general market index, is presented in the accompanying table.

 

Average Annual Total Returns on Common Share Net Asset Value

For periods ended 6/30/10

 

		6-Month		1-Year		5-Year
JDD		2.50%		34.39%		.57%
Comparative Benchmark1		1.60%		26.44%		3.17%
S&P 500 Stock Index2		-6.65%		14.43%		-0.79%

Six-month returns are cumulative; all other returns are annualized.

 

For the six-month period ended June 30, 2010, the total return on common share net asset value for the Fund outperformed both its comparative benchmark and the general market index.

 

Within the dividend-paying equity portion of the Fund, Biovail Corp., a specialty pharmaceutical firm that we added to the portfolio in May, rose sharply as the company agreed to merge with Valeant Pharmaceutical. The deal significantly expands the asset base for Biovail, thus reducing the risk of any single pipeline asset derailing its growth trajectory. Valeant brings with it a strong portfolio of growing pharmaceutical assets with extremely limited patent expiration risk.

 

Our insurance investments MetLife Inc. and Genworth Financial Inc. also outperformed, although the stocks were pressured late in the period on concerns that increased volatility in the equity markets and the sovereign debt crisis in Europe could have significant negative implications on capital and liquidity ratios.

 

Gold bullion hit a new nominal high above $1,250 per ounce during the period, spurred by the sovereign debt crisis and a flight to safety into gold on fears over the future of the European currency. Our gold mining equities benefited from the rising bullion price as well as stable input costs, particularly energy costs, which translated into higher margins.

 

Negatively impacting performance were our energy investments, which declined given the weak outlook for natural gas, and concerns about increased regulation and the cost of doing business given the tragic accident and oil spill that occurred in the Gulf of Mexico on April 20, 2010. Natural gas prices have been pressured this year due to rising gas rig counts, productivity gains, and a more sluggish recovery in demand than had originally been expected. Our energy investments are levered more towards international oil drilling activity (versus the domestic natural gas markets) where we believe the fundamentals are more attractive. None of our energy investments have a significant presence in the Gulf of Mexico.

 

Fears of potential pricing pressure in Europe as a result of fiscal tightening weighed on our large cap pharmaceutical investments, an industry we have made significant purchases recently. Large pharmaceutical companies generally operate with healthy margins and it is expected that the European governments will look towards these companies to help offset some of their budget deficits through increased taxes and/or price reductions.

 

Microsoft Corp. performed poorly in a weak technology sector. Microsoft reported better than expected earnings; however, its shares declined on investor concern that its product cycle may have peaked, removing a catalyst for the upward momentum in the stock price.

6		Nuveen Investments

 

Positions added during the period included Occidental Petroleum Corp., one of the largest integrated oil companies in the U.S., Amgen Inc. and Biovail Corp. in the health care sector, Unum Group, the largest writer of disability income products in the U.S. and U.K., and freight railcar manufacturer Trinity Industries Inc.

 

We eliminated investments in cable operator Comcast Corp., AT&T Inc. and ConocoPhillips, Banco Santander S.A., Energias de Portugal S.A., Northrup Grumman Corp., and Reinsurance Group of America Inc.

 

In the real estate portion of the Fund, our relatively large exposure to multi-family companies contributed positively to comparative performance. Our research indicated multi-family companies would experience improving fundamentals relative to other property types. Our research was confirmed as management of these companies raised growth estimates early in 2010 as occupancy rates improved earlier than many in the market expected and rents began to recover. On the negative side, the Fund’s performance was held back by investments in office and industrial companies.

 

The senior loan portion of the Fund performed well largely as a result of the higher quality profile of the Fund’s senior loan assets. Some of the higher quality names that performed well during the period on a relative basis were Warner Chilcott and Reynolds Brands. Market performance over this period was mixed, with selling pressure focused primarily on “higher beta” names, which are often lower quality and are debt of companies which were targets of leveraged buyout offers in 2005-2007. We did not believe that these assets represented buying opportunities, and had relatively small amounts invested in these types of positions. However, these higher beta names represented roughly half of the secondary market and were difficult to completely avoid. During the reporting period, our exposure to issuers such as Univision and TXU hindered performance.

 

In the emerging markets debt portion of the portfolio, country rotation decisions were the primary driver of positive relative results. Security selection also had a modest favorable impact, as did a combination of higher-quality and lower-quality issues. Each of these strategies, guided by our top-down outlook and our bottom-up research, aided results.

 

Overall, the Fund benefited from its underweight positioning in Hungary and Egypt, because these countries were among the worst performing Index constituents. Favorable security selection in Colombia and Russia also provided a boost to results. A lack of exposure in Bulgaria aided performance, as the debt underperformed during the period.

 

Conversely, a lack of exposure in Jamaica, a relative outperformer, detracted from relative returns. An overweight allocation and less favorable security selection in Argentina and Ukraine also weighed on results. In addition, less favorable security selection in U.S. dollar-denominated debt in Pakistan hurt on relative returns. An allocation to Croatia, including exposure to a euro-denominated sovereign issue, hindered returns as well.

 

IMPACT OF THE FUND’S CAPITAL STRUCTURE LEVERAGE STRATEGY ON PERFORMANCE

 

One important factor impacting the return of the Fund relative to the comparative benchmark and general market index was the Fund’s use of financial leverage, primarily through bank borrowings. The Fund uses leverage because its managers believe that, over time, leveraging provides opportunities for additional income and total returns for

Nuveen Investments		7

common shareholders. However, use of leverage also can expose common shareholders to additional risk–especially when market conditions are unfavorable. For example, as the prices of securities held by the Fund decline, the negative impact of these valuation changes on common share net asset value and common shareholder total return is magnified by the use of leverage. Conversely, leverage may enhance common share returns during periods when the prices of portfolio holdings generally are rising.

 

Over the course of this period, the use of financial leverage contributed positively to the performance of the Fund.

 

RECENT EVENTS CONCERNING THE FUND’S REDEMPTION OF AUCTION RATE PREFERRED SHARES

 

Shortly after its inception, the Fund issued auction rate preferred shares (ARPS) to create financial leverage. As noted in past shareholder reports, the weekly auctions for those ARPS shares began in February 2008 to consistently fail, causing the Fund to pay the so-called “maximum rate” to ARPS shareholders under the terms of the ARPS in the Fund’s charter documents. With the goal of lowering the relative cost of leverage over time for common shareholders and providing liquidity at par for preferred shareholders, the Fund sought to refinance all of its outstanding ARPS beginning shortly thereafter. The Fund completed this refinancing process during 2009 and since then has relied upon bank borrowings to create financial leverage.

 

In April and May 2010, 30 Nuveen leveraged closed-end funds, including this Fund, received a demand letter from a law firm on behalf of a purported holder of common shares of each fund, alleging that Nuveen and the funds’ officers and Board of Directors/Trustees breached their fiduciary duties related to the redemption at par of the funds’ ARPS. In response, the Board established an ad hoc Demand Committee consisting of disinterested and independent Board members to investigate the claims. The Demand Committee retained independent counsel to assist it in conducting an extensive investigation.

 

Upon completion of its review, the Demand Committee found that it was not in the best interests of the Fund or its shareholders to take the actions suggested in the demand letters and recommended that the full Board reject the demands made in the demand letter. After reviewing the findings and recommendations of the Demand Committee, the Board of Trustees for the Fund unanimously adopted the Demand Committee’s recommendation to reject the demands contained in the letters. At the time this report was produced, lawsuits pursuing claims made in the demand letter had been filed on behalf of shareholders of several funds, including this Fund, against Nuveen Asset Management, the Nuveen holding company, the majority owner of the holding company, the lone interested trustee, and current and former officers of the various funds. Nuveen Investments and the other named defendants believe these lawsuits to be without merit, and all named parties intend to defend themselves vigorously. The Fund believes that these lawsuits will not have a material effect on the Fund or on Nuveen Asset Management’s ability to serve as investment adviser to the Fund.

8		Nuveen Investments

 

Common Share Distribution
and Share Price Information

 

 

The following information regarding your Fund’s distributions is current as of June 30, 2010, and likely will vary over time based on the Fund’s investment activities and portfolio investment value changes.

 

During the six-month reporting period, the Fund did not make any changes to its quarterly distribution to common shareholders. Some of the important factors affecting the amount and composition of these distributions are summarized below.

 

The Fund employs financial leverage through the use of bank borrowings. Financial leverage provides the potential for higher earnings (net investment income), total returns and distributions over time, but—as noted earlier—also increases the variability of common shareholders’ net asset value per share in response to changing market conditions. During the current reporting period, the Fund’s financial leverage contributed positively to common share income and common share net asset value price return.

 

The Fund has a managed distribution program. The goal of this program is to provide common shareholders with relatively consistent and predictable cash flow by systematically converting the Fund’s expected long-term return potential into regular distributions. As a result, regular common share distributions throughout the year are likely to include a portion of expected long-term gains (both realized and unrealized), along with net investment income.

 

Important points to understand about the managed distribution program are:

 

•	The Fund seeks to establish a relatively stable common share distribution rate that roughly corresponds to the projected total return from its investment strategy over an extended period of time. However, you should not draw any conclusions about the Fund’s past or future investment performance from its current distribution rate.
•	Actual common share returns will differ from projected long-term returns (and therefore the Fund’s distribution rate), at least over shorter time periods. Over a specific timeframe, the difference between actual returns and total distributions will be reflected in an increasing (returns exceed distributions) or a decreasing (distributions exceed returns) Fund net asset value.
•	Each distribution is expected to be paid from some or all of the following sources:

 

	•	net investment income (regular interest and dividends),
	•	realized capital gains, and
	•	unrealized gains, or, in certain cases, a return of principal (non-taxable distributions).

 

•	A non-taxable distribution is a payment of a portion of the Fund’s capital. When the Fund’s returns exceed distributions, it may represent portfolio gains generated, but not realized as a taxable capital gain. In periods when the Fund’s returns fall short of distributions, the shortfall will represent a portion of your original principal, unless the

Nuveen Investments		9

	shortfall is offset during other time periods over the life of your investment (previous or subsequent) when the Fund’s total return exceeds distributions.

 

•

Because distribution source estimates are updated during the year based on the Fund’s performance and forecast for its current fiscal year (which is the calendar year for the Fund), estimates on the nature of your distributions provided at the time the distributions are paid may differ from both the tax information reported to you in your Fund’s IRS Form 1099 statement provided at year end, as well as the ultimate economic sources of distributions over the life of your investment.

 

The following table provides estimated information regarding the Fund’s common share distributions and total return performance for the six months ended June 30, 2010. The distribution information is presented on a tax basis rather than a generally accepted accounting principles (GAAP) basis. This information is intended to help you better understand whether the Fund’s returns for the specified time period were sufficient to meet the Fund’s distributions.

 

As of 6/30/10 (Common Shares)		JDD
Inception date			9/25/03
Six months ended June 30, 2010:
Per share distribution:
From net investment income			$0.18
From realized capital gains			0.29
Return of capital			0.00
Total per share distribution			$0.47
Annualized distribution rate on NAV			8.58%
Average annual total returns:
Excluding retained gain tax credit/refund3:
Six-Month (Cumulative) on NAV			2.50%
1-Year on NAV			34.39%
5-Year on NAV			0.57%
Since inception on NAV			4.81%
Including retained gain tax credit/refund3:
Six-Month (Cumulative) on NAV			2.50%
1-Year on NAV			34.39%
5-Year on NAV			1.25%
Since inception on NAV			5.34%

 

Common Share Repurchases and Share Price Information

 

As of June 30, 2010 and since the inception of the Fund’s repurchase program, the Fund has cumulatively repurchased common shares as shown in the accompanying table.

 

Common Shares		% of Outstanding
Repurchased		Common Shares
240,001			1.2%

10		Nuveen Investments

 

During the six-month reporting period, the Fund repurchased common shares at a weighted average price and a weighted average discount per common share as shown in the accompanying table.

 

		Weighted Average				Weighted Average
Common Shares		Price Per Common Share				Discount Per Common Share
Repurchased		Repurchased				Repurchased
30,100			$9.81				14.97%

 

As of June 30, 2010, the Fund’s common share price was trading at a -9.95% discount to its common share net asset value, compared with an average discount of -10.89% for the entire six-month period.

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JDD Performance OVERVIEW			Nuveen Diversified Dividend and Income Fund
			as of June 30, 2010

 

 

Portfolio Allocation (as a % of total investments)²

 

 

2009-2010 Distributions Per Common Share

 

 

Common Share Price Performance—Weekly Closing Price

 

1	Current Distribution Rate is based on the Fund’s current annualized quarterly distribution divided by the Fund’s current market price. The Fund’s quarterly distributions to its shareholders may be comprised of ordinary income, net realized capital gains and, if at the end of the calendar year the Fund’s cumulative net ordinary income and net realized gains are less than the amount of the investments in Fund’s distributions, a return of capital for tax purposes.
2	Excluding investments in derivatives.
3	As previously explained in the Common Share Distribution and Share Price Information section of this report, the Fund elected to retain a portion of its realized long-term capital gains for the tax years ended December 31, 2007 and December 31, 2006, and pay required federal corporate income taxes on these amounts. These standardized total returns include the economic benefit to Common shareholders of record of this tax credit/refund. The Fund had no retained capital gains for the tax years ended December 31, 2009 and December 31, 2008.

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