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Commodity Real Return Strategy Fund —
Oil price resurgence drives double-digit gains for commodities
2nd Quarter, 2016
"In the current environment, commodities with naturally declining supply (e.g., energy-related commodities) are likely to outperform those that require producer discipline to bring down supply (e.g., metals). "
– Pacific Investment Management Company LLC

Commodities index returns were strong for the second quarter of 2016, with the Energy sector leading the way; oil prices benefited from production issues in several regions as well as continued strong demand. The agriculture sector gained on constructive USDA data and weather, while precious metals saw a safe haven bid amid Brexit market volatility. The Bloomberg Commodity Index Total ReturnSM posted a gain of 12.78%. The Bloomberg Commodity Index is an unmanaged index of futures contracts on a diversified group of physical commodities.
The Harbor Commodity Real Return Strategy Fund outperformed its Bloomberg Commodity benchmark during the quarter, with a return of 13.77%. The Fund invests in commodity-linked derivative instruments backed by a portfolio of inflation-indexed bonds, such as U.S. Treasury Inflation-Protected Securities (TIPS) and other fixed income securities. Outperformance relative to the benchmark was driven in part by options on higher oil prices, which had a positive impact as prices recovered due to strong demand and a production slowdown. Positioning related to natural gas prices and volatility in the price of gold also contributed, as did fixed income collateral positioning. The portfolio’s longstanding “platinum versus gold” strategy detracted from relative returns, as gold outperformed platinum as the principal flight-to-safety metal.
PIMCO’s comments were made in a July, 2016 report. Highlights adapted from the report appear below. All comments relate to the quarter ended June 30, 2016, unless otherwise indicated. All references to the year-to-date are for the period January 1 through June 30, 2016.

Interview Highlights

Investment Themes
In agriculture, we are positioned long ethanol versus corn. We think deferred ethanol margins are generally cheap, and that good gasoline demand combined with plentiful corn inventories should be supportive of stronger margins as they roll up to prompt months. We are short soybean calendar spreads, because we generally view the agriculture complex as overvalued, especially soybeans that are in backwardation, which has been supported by weather in South America and mildly constructive USDA data. We have continued to maintain our “platinum versus gold” trade in the portfolio, because we believe that conditions will likely revert to reflecting the premium platinum has historically commanded versus gold. We believe that the winter premium being priced into the natural gas market is rich, and therefore have taken a short position there. Lastly, we are long European refinery margins, because we expect that a combination of strong demand for gasoline and jet fuel paired with ample crude inventories could push forward refinery margins higher.
Outlook: Risks and Opportunities
We expect that global economic and policy divergence will continue to provide a mix of risks, opportunities and volatility. Our 2016 forecasts for global growth and inflation remain low in light of weaker economic momentum as well as the tightening in financial conditions that occurred at the beginning of the year. Importantly, we do not expect a global or U.S. recession over the cyclical horizon. In the U.S., our expectation is for above-trend economic growth in a 1.75%–2.25% range in 2016. We expect the “delicate handoff” from slowing job growth to higher wages to succeed as the main driver of income creation, supporting further gains in consumer spending. Assuming steadier crude oil prices, headline inflation is likely to hover in the 1.0%–1.5% range before potentially rising to 2% by year end.

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