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Commodity Real Return Strategy Fund —
Rebound in oil helps Fund outperform in Q2
2nd Quarter, 2015
"We've seen oil prices moderate a bit. We expect the downward trend in oil prices to continue as a result of additional crude oil supply. "
– Pacific Investment Management Company LLC

Commodities rebounded in the second quarter of 2015, as the Bloomberg Commodity Index Total ReturnSM posted a return of 4.66%. Strong product demand lead to a 20% gain in crude oil. The index was also supported by positive returns in the agricultural sector, while metals and gold posted negative returns during the quarter. The Bloomberg Commodity benchmark is an unmanaged index of futures contracts on a diversified group of physical commodities.
The Harbor Commodity Real Return Strategy Fund returned 4.78% for the second quarter and outperformed the index. Longer term, the Fund also outperformed the index for the latest five-year period and since its inception in 2008. The Fund invests in commodity-linked derivative instruments backed by a portfolio of inflation-indexed bonds such as Treasury Inflation-Protected Securities (TIPS) and other fixed income securities. The Fund is managed by Mihir Worah, Nicholas Johnson, and Jeremie Banet of Pacific Asset Management Company (PIMCO).
In terms of the Fund’s commodity strategies, positions in ethanol and gold benefited returns relative to the index, while an exposure to oil and wheat hurt relative performance. Currency positions also hurt relative performance, as an underweight exposure in the declining Yen was not enough to offset the underweight position in the rising Euro. In the collateral portfolio, TIPS had negative performance during the quarter, but they outperformed nominal treasuries as crude oil prices increased at the start of the quarter, and inflation data surprised to the upside.
PIMCO’s comments were made in a July 15, 2015, interview. Highlights adapted from the interview appear below. All comments relate to the quarter ended June 30, 2015, unless otherwise indicated. All references to year-to-date are for the period January 1 through June 30, 2015.

Interview Highlights

Higher Growth in Most Economies
In terms of the economic landscape, the measures that we see seem to be pointing toward higher growth in most economies. We also see relatively low levels of inflation at this point in time. That means that there is an opportunity for investors to source some of the real return bonds at a time when they are still relatively inexpensive. Countries in which there is more room for monetary policy to influence the rates overall adds to the attractiveness.
Inflation View
In the immediate future, we expect that inflation will remain relatively muted. Over time, though, we believe that global inflation will accelerate gradually from both goods and services inflation. Further, the Fed and other central banks would probably welcome a modest overshoot relative to their targets. We do not think deflation is likely in the next several years due to inflationary monetary policy actions by the major developed market central banks.
Oil Production and Supply
Crude oil production continues to be very robust. With shale oil in the U.S., we’ve seen continued increases in the supply side of oil. That could have a negative impact on oil prices. We’ve seen oil prices moderate a bit. We expect the downward trend in oil prices to continue as a result of additional crude oil supply. We are underweight U.S. gasoline and overweight crude as we expect the production margins that are associated with the transformation of crude oil into gasoline to continue to grow.
Natural Gas
We are overweight longer term natural gas. There have been declines in production in the U.S. and natural gas tends to be more of a regional phenomenon fluctuating around the world, but it is harder to transport than oil is. We expect the demand to pick up in the U.S. and production to be less than it has been in the past.
The Fund also had a tactical position in gold. Gold tends to be negatively correlated to TIPS yields. With the volatility in these yields over the quarter, we’ve taken opportunities to move in and out on a tactical basis. The overall strategy was positive for returns during the quarter.

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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.

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