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Bond Fund —
Bond Fund logs positive return for Q4, outpaces index for quarter and full year
4th Quarter, 2013
"We still believe that the world is stuck in a low gear but we are now looking for stronger growth than we had previously expected in the United States and Europe. "
– PIMCO Investment Strategy Group

The Harbor Bond Fund managed a positive return for the fourth quarter of 2013, outperforming its benchmark, the Barclays U.S. Aggregate Bond Index, which lost ground. The Fund recorded a return of 0.22% for the three months ended December 31, 2013, while the index, a measure of the broad taxable U.S. bond market, returned -0.14%.
The Fund also outpaced its benchmark for calendar 2013, although both finished the year in negative territory. The Harbor Bond Fund returned -1.46% for the 12 months ended December 31, while the index posted a return of -2.03%. The Fund also continued its long-term outperformance of the index: for the 5-year and 10-year periods ended December 31 and since the Fund's inception in 1987. Bill Gross, a managing director of Pacific Investment Management Company (PIMCO), has managed Harbor Bond Fund since its inception.
A focus on the shorter-dated end of the yield curve helped Fund performance relative to the index in the fourth quarter as the curve steepened, the PIMCO team reports. Other favorable strategies included investments in mortgage-backed securities, a small allocation to high yield credit, and an exposure to Build America Bonds. A below-benchmark weighting in corporate debt hurt relative performance as the corporate sector outperformed comparable Treasurys.
The PIMCO team is expecting somewhat stronger economic performance in the year ahead in the U.S. and Europe. In terms of portfolio positioning, PIMCO is targeting a near-benchmark duration for the coming year and is maintaining above-index exposures to mortgage-backed securities and municipal bonds as well as an underweighted position in the corporate sector.
PIMCO's comments were made in a January 16, 2014, interview. Highlights adapted from the interview appear below. All comments relate to the quarter ended December 31, 2013, unless otherwise indicated. All references to year-to-date are for the period January 1 through December 31, 2013.

Interview Highlights

Duration strategy
In terms of positioning in the Bond Fund, we are targeting a near-benchmark duration. We expect the 10-year Treasury rate to move in a range, so we probably will make some adjustments in duration as rates move. For the most part, portfolio duration will be accomplished by taking positions in the 3-to-5-year part of the yield curve. We will be underweight at the longer end, anywhere past the 10-year point.
Improved outlook
We still believe that the world is stuck in a low gear but we are now looking for stronger growth than we had previously expected in the United States and Europe. Although structural problems remain, we believe that monetary policy has helped stabilize the economic environment and create opportunities for growth in both continents.
Sector positioning
In terms of sector positioning, we are underweight in corporate bonds. That is reflective of our view that corporate spreads have decreased to too narrow a level. We will be overweight in mortgages and municipal bonds, which we believe will result in a slight advantage in yield. Even though we are underweight in the spread sectors, with the strategies we have in place we believe we could be able to gain enough yield to not only match but perhaps exceed that of the index.
Targeting potential upgrades
At current valuation levels you're not getting properly compensated, in our view, for the risk you're assuming in either investment grade or high yield securities. However, we also believe it is possible to selectively find bonds in those sectors that, based on their fundamentals, could be in line for rating upgrades. That is a strategy we have followed for some time.
Emerging markets
In emerging markets we like Brazil and Mexico but we have reduced the Brazilian exposure. We now have about 3% of the portfolio in Mexico and about 20 basis points [or 0.20 percentage point] in Brazil.

Performance figures discussed reflect that of the institutional class shares.

The views expressed herein are those of the portfolio manager at the time of the interview and may not be reflective of their current opinions or future actions.  These views are not necessarily those of the fund company and should not be construed as such.

This information should not be considered as a recommendation to purchase or sell a particular security and the holdings or sectors mentioned may change at any time and may not represent current or future investments.