The emerging markets bonds index had a volatile quarter, dropping more than 1.5% in January before retracing those losses and finishing up more than 3.5%. While several emerging markets currencies sold off steeply at the beginning of the year, countries including Turkey, India, and Brazil aggressively raised interest rates. This action stabilized their currencies and benefited investor confidence. The standoff between Russia and the West over Crimea did not result in a sustained sell-off in emerging markets bonds, and the March announcement of a two-year International Monetary Fund financing package for Ukraine helped boost Ukrainian debt.
The Emerging Markets Bond Fund returned 3.44% in the quarter compared with 3.48% for the J.P. Morgan Emerging Markets Bond Index Global and 2.44% for the Lipper Emerging Market Hard Currency Debt Funds Average. For the 12 months ended March 31, 2014, the fund returned −2.62% versus −1.05% for the J.P. Morgan Emerging Markets Bond Index Global and −2.75% for the Lipper Emerging Market Hard Currency Debt Funds Average. The fund's average annual total returns were −2.62%, 11.94%, and 8.64% for the 1-, 5-, and 10-year periods, respectively, as of March 31, 2014. The fund's expense ratio was 0.94% as of its fiscal year ended December 31, 2012.
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The Emerging Markets Bond Fund charges a 2%
redemption fee on shares held 90 days or less.
The performance information shown does not reflect the deduction of the redemption fee;
if it did, the performance would be lower.
We were underweight sovereign bonds denominated in U.S. dollars or euros because of their high valuations and overweight corporate bonds that should benefit from rising domestic consumption. The fund's largest overweight at the end of the quarter was to Brazil, where our holdings are largely locally denominated government and corporate bonds. We increased our exposure to India, again primarily in corporate bonds, to an overweight position as a result of the Indian central bank's encouraging adjustments in response to tighter global liquidity. We continued to focus on careful security selection in countries that have significant reform needs and upcoming elections and to maintain modest net currency exposure given the strength of the U.S. dollar.
Investors in emerging markets debt now appear to be more focused on economic growth and elections in developing countries later in 2014 than on the effects of Federal Reserve tapering. We expect continued volatility in the near term, which could result in tepid investor flows into the asset class through the first half of the year. However, many emerging markets have strong balance sheets and higher growth potential relative to developed countries, so the long-term fundamental drivers of the segment remain intact.