Commodity Strategy Fund (A)

A Word On The Markets  as of Mar 31, 2012

The broad commodity market, as measured by the DJ-UBS Commodity Index Total Return², gained 0.89% during the first quarter. Massive liquidity injections by the European Central Bank (ECB) fueled a strong rally in risk assets such as equities and emerging market debt. Commodities were less buoyant for two primary reasons. First, investors were concerned about a potential hard landing for the Chinese economy. Second, the Federal Reserve disappointed many investors by not mentioning the need for a third round of quantitative easing at its March meeting.

Three of the five sectors in the DJ-UBS Commodity Index Total Return had positive returns: precious metals, industrial metals and agriculture. Precious metals and industrial metals had the strongest gains, lifted by easy central bank policies around the world. Beyond the ECB's actions, the Fed pledged to keep interest rates near zero through late 2014, the Bank of Japan increased the size of its bond-buying program, and the People's Bank of China lowered bank reserve requirements. Tightness in the grain markets contributed to a solid advance in the agricultural sector.

Energy and livestock had negative returns. Energy's decline was driven by a steep drop in natural gas prices that resulted from abundant production and an unseasonably mild winter in the United States. An easing of tensions with Iran about its nuclear program put further pressure on the sector, although crude oil finished the quarter in positive territory. Livestock was impacted by weakness in the cash markets as well as profit-taking.

Performance Summary 

During the first quarter, Eaton Vance Commodity Strategy Fund outperformed its benchmark, the DJ-UBS Commodity Index Total Return, at net asset value.

• The Fund's benchmark exposure via total return swaps on the Index continued to provide the majority of returns, and tracking error to the benchmark remained minimal. As the benchmark's return was modestly positive for the quarter, so was the Fund's total return.
• The Fund employs three main strategies that seek to generate excess returns relative to the benchmark. Of the three, investments in emerging market debt and allocations to inflation-linked bonds positively impacted relative performance. Venezuela is one of the world's top oil producers, and the Fund's long positions in Venezuelan bonds did particularly well amid rising oil prices. The Fund also benefited from its exposure to Treasury Inflation-Protected Securities (TIPS) within its collateral portfolio. Real U.S. interest rates (those net of inflation expectations) declined across most maturities, causing TIPS to rally. Active commodity investing - the third alpha strategy - was a drag on results relative to the benchmark.

Contributors 

Factors positively impacting Fund performance during the quarter:

• An overweight position in gold added value to the Fund. As previously mentioned, accommodative monetary policy was a tailwind for gold and other precious metals.
• An underweight in coffee was beneficial. Coffee was one of the weakest commodities this quarter on expectations of record supplies in Brazil, the world's top producer.
• An underweight in corn also positively impacted relative performance. Corn prices fell on concerns that the U.S. Department of Agriculture would report a high inventory number in its widely anticipated March 30 crop report.

Detractors 

Factors negatively impacting Fund performance during the quarter:

• An underweight position in copper was unfavorable. Prices advanced on the back of easy monetary policy, news that Greece had reached a deal with private bondholders to restructure its debt, and signs of improvement in the U.S. economy.
• An underweight in aluminum detracted from relative results. Similar to copper, aluminum gained on rising optimism about the global economic backdrop.
• An overweight in live cattle hurt relative performance. After hitting a record high in February, the commodity retreated on worries that demand for high-priced beef might start to decline.

Investment Outlook And Fund Positioning 

The flood of liquidity being provided by central banks globally is extremely supportive of risk assets such as commodities. However, it is important to remember why central bankers are being so accommodative. The world is awash in liquidity because major economies like the United States and euro zone are grappling with budget deficits and other structural problems.

Nonetheless, we are generally bullish on the risk markets and commodities in particular given their sensitivity to monetary injections. This bodes well for the Fund's benchmark exposure to the commodity market. With strong credit metrics in many developing countries, our outlook for emerging market debt is also positive. This is an area we are emphasizing in the Fund and which we believe will continue to generate excess returns.

The views expressed in this report are those of portfolio manager(s) and are current only through the date stated at the top of this page. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance fund. This commentary may contain statements that are not historical facts, referred to as "forward looking statements". The Fund's actual future results may differ significantly from those stated in any forward-looking statement, depending on factors such as changes in securities or financial markets or general economic conditions, the volume of sales and purchases of Fund shares, the continuation of investment advisory, administrative and service contracts, and other risks discussed from time to time in the Fund's filings with the Securities and Exchange Commission.

Portfolio profile subject to change due to active management. Percentages may not total 100% due to rounding.

About Risk 

The value of commodities investments will generally be affected by overall market movements and factors specific to a particular industry or commodity, including weather, embargoes, tariffs, or health, political, international and regulatory developments. Derivatives instruments can be used to take both long and short positions, be highly volatile, result in economic leverage (which can magnify losses), and involve risks in addition to the risks of the underlying instrument on which the derivative is based, such as counterparty, correlation and liquidity risk. If a counterparty is unable to honor its commitments, the value of Fund shares may decline and/or the Fund could experience delays in the return of collateral or other assets held by the counterparty. An imbalance in supply and demand in the income market may result in valuation uncertainties and greater volatility, less liquidity, widening credit spreads and a lack of price transparency in the market. As interest rates rise, the value of certain income investments is likely to decline. Securities with longer durations tend to be more sensitive to interest rate changes than securities with shorter durations. A portfolio with negative duration generally incurs a loss when interest rates and yields fall. The Fund's performance may not match or correlate to that of its Index, either on a daily or aggregate basis due to factors such as Fund expenses, imperfect correlation, rounding of share prices, changes to the composition of the Index, regulatory policies, high portfolio turnover and the use of leverage (if any). Investments in income securities may be affected by changes in the creditworthiness of the issuer and are subject to the risk of non–payment of principal and interest. The value of income securities also may decline because of real or perceived concerns about the issuer's ability to make principal and interest payments. Investments in foreign instruments or currencies can involve greater risk and volatility than U.S. investments because of adverse market, economic, political, regulatory, geopolitical or other conditions. In emerging countries, these risks may be more significant. Because the Fund investments may be concentrated in a particular sector, the Fund share value may fluctuate more than that of a less concentrated fund. A non-diversified fund may be subject to greater risk by investing in a smaller number of investments than a diversified fund. No Fund is a complete investment program and you may lose money investing in a Fund. The Fund may engage in other investment practices that may involve additional risks and you should review the Fund prospectus for a complete description.

No attribution information is available.

Portfolio profile subject to change due to active management. Percentages may not total 100% due to rounding.

About Risk 

The value of commodities investments will generally be affected by overall market movements and factors specific to a particular industry or commodity, including weather, embargoes, tariffs, or health, political, international and regulatory developments. Derivatives instruments can be used to take both long and short positions, be highly volatile, result in economic leverage (which can magnify losses), and involve risks in addition to the risks of the underlying instrument on which the derivative is based, such as counterparty, correlation and liquidity risk. If a counterparty is unable to honor its commitments, the value of Fund shares may decline and/or the Fund could experience delays in the return of collateral or other assets held by the counterparty. An imbalance in supply and demand in the income market may result in valuation uncertainties and greater volatility, less liquidity, widening credit spreads and a lack of price transparency in the market. As interest rates rise, the value of certain income investments is likely to decline. Securities with longer durations tend to be more sensitive to interest rate changes than securities with shorter durations. A portfolio with negative duration generally incurs a loss when interest rates and yields fall. The Fund's performance may not match or correlate to that of its Index, either on a daily or aggregate basis due to factors such as Fund expenses, imperfect correlation, rounding of share prices, changes to the composition of the Index, regulatory policies, high portfolio turnover and the use of leverage (if any). Investments in income securities may be affected by changes in the creditworthiness of the issuer and are subject to the risk of non–payment of principal and interest. The value of income securities also may decline because of real or perceived concerns about the issuer's ability to make principal and interest payments. Investments in foreign instruments or currencies can involve greater risk and volatility than U.S. investments because of adverse market, economic, political, regulatory, geopolitical or other conditions. In emerging countries, these risks may be more significant. Because the Fund investments may be concentrated in a particular sector, the Fund share value may fluctuate more than that of a less concentrated fund. A non-diversified fund may be subject to greater risk by investing in a smaller number of investments than a diversified fund. No Fund is a complete investment program and you may lose money investing in a Fund. The Fund may engage in other investment practices that may involve additional risks and you should review the Fund prospectus for a complete description.