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Small Cap Growth Fund —
Q4 recovery in U.S. small cap stocks led by Health Care and Technology stocks
4th Quarter, 2015
"We are positioned as much as we can to be domestic and consumer focused. "
– Westfield Capital Management Company, L.P.

Early in the quarter, U.S. small cap growth stocks rallied off of their prior quarter lows, only to struggle into the finish of the year. For the fourth quarter, the Russell 2000® Growth Index, a measure of growth-oriented companies in the small cap segment of the U.S. market, returned 4.32%. The Harbor Small Cap Growth Fund outperformed the index with a return of 4.83%. For the full calendar year, the Fund’s return of -1.31% outperformed the benchmark’s return of -1.38%.
The small cap growth market was led by the recovery in Health Care stocks, following a deep sell-off in Q3. Health Care is the largest sector in the index and had an overall sector return for the quarter of 10.36%, which drove the positive return for the period. The Fund benefitted from strong stock selection in the sector, led by a number of strong performing biotechnology and therapeutic drug companies. Technology, the second largest sector in the Index, was the next top performer. The Fund’s holdings in the sector outperformed the index’s holdings, also contributing to the Fund’s outperformance.
The Fund’s top two individual contributors to performance during the quarter were both Health Care companies. Pacira Pharmaceuticals recovered from a very poor Q3, rising 86.84% in Q4. Its earnings in Q3 were above expectations, which drove the stock higher in Q4. The second best contributor to overall Fund performance was Dyax, a biopharmaceutical company that was the subject of a takeover bid from Shire, a global pharmaceutical company, which caused the stock price to rise by 96.07%.
Portfolio Manager Will Muggia’s comments were made in a January 14, 2016 interview. Highlights adapted from the interview appear below. All comments relate to the quarter ended December 31, 2015, unless otherwise indicated. All references to the year-to-date are for the period January 1, 2015 through December 31, 2015.

Interview Highlights

Increasing Earnings and Merger & Acquisition Activity in Health Care
We anticipated that a strong quarterly earnings season and the resumption of M&A activity would be catalysts for stabilization in Health Care. The portfolio’s focus on companies with not only compelling growth opportunities, but also good business models, translated into double-digit price appreciation for most of the names. We expect, actually, the velocity of M&A to pick up. There’s a lot of M&A chatter going around, so I think we will see more deals here.
Status of the U.S. Economy
We are positioned as much as we can to be domestic and consumer focused with our companies. It is really a tale of two worlds – the back end of the economy, such as industrials and manufacturing, is really bad. Any industrial related spending around oil is down, capex is down. On the other side, the U.S. consumer is in really good shape. So, the front end of the economy is pretty good. The key for this year is going to be to figure out if there are enough positives for the consumer that the consumer can pull the back end of the economy out. We are most positioned in the front end of the economy with Health Care, Technology, and Consumer exposures.
Changing Consumer Preferences
All of our surveys on current demographic trends have been showing shifting discretionary spending among the Millennials. They definitely prefer experiences over possessions. We are trying to find industries with exposure to this growth trend. What we are also seeing is increased savings, including the benefits from the decline in gasoline prices. Instead of a big jump in spending that we may have seen associated with past declines, you have more than half of the benefit going into savings. We are seeing 2.5% wage growth, and near 4% increase in real income and disposable income growth in the U.S. I think in 2016 people may loosen up the purse strings a little more incrementally, given the rise in the stock market, home prices, and the savings rate in recent years.
2016 Market Risks
The biggest risk is that oil goes to $20. I think the biggest risk is that you just have another collapse in crude, which just creates bigger problems in Russia, Brazil, Venezuela, Nigeria, and then China and emerging markets in general. This is tied to currency. If a currency war occurs where emerging market countries such as China devalue too much, then everyone else in Asia has to, including Japan. And then the U.S. Dollar just keeps getting stronger which you could argue is good for the U.S. consumer, but it is bad for overall earnings in the U.S., as large cap companies particularly get hit hard on translation.

Performance data shown represents past performance, which is no guarantee of future results. Current performance may be higher or lower than the past performance data shown. Investment returns and the value of an investment will fluctuate, and an investor's shares, when sold, may be worth more or less than their original cost. You can obtain performance data current to the most recent month-end (available within seven business days after the most recent month-end) by calling 800-422-1050 or visiting

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.