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Unconstrained Bond Fund —
Fund performance helped by higher inflationary pressures
2nd Quarter, 2015
"We expect that the short end of the curve is most likely to underperform in the United States as the Federal Reserve raises interest rates "
– Pacific Investment Management Company LLC

The Harbor Unconstrained Bond Fund posted a return of -0.11% for the second quarter of 2015. Interest rate strategies, namely the Fund’s overall negative duration exposure, detracted from performance during the quarter. With expectations that the yield curve would flatten, the Fund’s short exposure to the front end of the curve was a detractor, as short-term maturities outperformed long-term maturities.
Varying exposures to European countries provided mixed results. The Fund’s short position in Germany was beneficial as German bunds sold off during the quarter. However, losses from long positions in Italy and Spain more than offset those gains, as spread widening in these countries due to Greek exit fears detracted from performance.
Continued exposure to TIPS was a positive contributor to performance as market inflation expectations rose. Additionally, the Fund maintained its exposure to non-agency mortgage-backed securities (MBS), which positively contributed to second quarter performance.
From a currency perspective, the Fund continues to be long the U.S. Dollar to take advantage of diverging interest rate expectations between the U.S. and regions such as Europe and Japan. Nonetheless, this exposure hurt relative performance; specifically, gains from the short position in the Yen could not fully offset losses from the short position in the Euro. Meanwhile, the Fund’s long position in the Mexican Peso was a detractor from performance, as the Peso depreciated about 3% during the quarter.
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

Monetary Policy Expectations
We expect that the short end of the curve is most likely to underperform in the U.S. as the Federal Reserve raises interest rates. So the largest underweight is going to be the one to five-year part of the maturity spectrum. However, we believe TIPS are a good hedge against potentially rising inflationary pressures over time, because monetary policy has been so easy for most of the countries for quite a period, involving the U.S. as well as in Europe.
Credit Exposures
We are focused on the U.S. and European banking gains. These are the likes of JP Morgan, Bank of America, HSBC, and that’s really the predominant allocation in that segment. We expect that provides a nice amount of income for the portfolio, in combination with the non-agency MBS that we hold. Even though it doesn't carry any duration, it should be able to generate a substantial amount of yield through the positions that we have in place in these credit sectors.
Emerging Markets
We remain quite selective in our emerging markets exposures. We hold Brazil, Mexico, and a small part of the portfolio in Russia. These exposures provide an attractive amount of income for the portfolio.
Currency Views
Looking at the Fund’s overall exposure, we have pared back short positions just a bit, though we continue to have short positions in the Japanese Yen and the Euro. We believe the strength of the U.S. Dollar is more of a secular trend that will continue because of differences in expected monetary policy actions among the major developed market’s central banks. Within emerging markets, we’re also long the Mexican Peso as a result of the growth prospects of that country.

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.