Emerging Markets Local Income Fund (A)

A Word On The Markets  as of Dec 31, 2011

Headlines from the eurozone drove global market sentiment, as governmental policymakers failed to put an end to the concerns regarding the sovereign debt crisis. The European Central Bank (ECB), in conjunction with other global central banks, provided measures that supported banking liquidity, which helped halt the slide in financial corporate credit spreads. Most sovereign bond yields continued to rise during the quarter, as the European Central Bank repeatedly rejected calls for widespread asset purchases.

The United States economy showed signs of further recovery, as consumer and business confidence indicators rose throughout the quarter. Strong holiday retail sales also buoyed market sentiment. The Federal Reserve did not change its policy rate, as the housing market remained weak and the unemployment rate hovered near nine percent. The yield curve had barely moved by the end of the quarter, as yields on obligations beyond three years came in slightly.

Most of the currencies in the emerging market economies of Latin America and Asia appreciated slightly versus the dollar on a total return basis, despite concerns that a slowing economy in Europe would lead to a decline in emerging market economic growth. The Peruvian new sol and the South Korean won led gains in the spot market within their respective regions.

Central and eastern Europe proved to be closely tied to market moves within the eurozone. Significant banking linkages between western European banks and the economies of central and eastern Europe led to declines in most currencies. Most precious metals declined during the quarter.

Performance Summary 

For the quarter ended December 31, 2011, Emerging Markets Local Income Fund generated a positive return of 1.19% at net asset value, which outperformed its benchmark, the J.P. Morgan GBI-EM Global Diversified Index².

• After a tumultuous third quarter, the market for emerging-market local debt and currencies rebounded modestly during the year's final three months, as the benchmark had a 0.48% return. However, there was a significant amount of performance dispersion in returns, both among regions and countries within those regions.
• Europe was the only region to experience negative total returns as measured by the benchmark, weighed down by losses in Hungary, Poland and Turkey. For the quarter, Hungary posted a -13.55% return, as its government is faced with political turmoil over the implementation of a new constitution, which is affecting its ability to secure external funding.
• The best-performing countries were found in the Latin American and Asian regions, where currencies rebounded to appreciate against the U.S. dollar. Columbia led the pack with a positive 9.55% total return, as measured by the benchmark, followed by the Philippines with 7.36% and Peru at 6.20%.

Contributors 

Contributors to performance during the fourth quarter included:

• The Fund's continued overweight position in Indonesia relative to the benchmark resulted in excess returns.
• Also within the benchmark, the Fund experienced relative return gains with its investments in South Africa, Columbia, Malaysia and Russia. The Fund maintained a modest underweight position to Russia during the quarter, as concerns about Russia's economic path and news of apparently rigged national elections led to investor outflows.
• Investment positions in out-of-index countries within Asia and Latin America also contributed to excess returns. In Latin America, holdings in Argentina, Venezuela and Uruguay contributed. In Asia, investments in the currencies of China and South Korea lifted returns.

Detractors 

Detractors to performance during the fourth quarter included:

• Within the benchmark, the Fund's positions in Hungary, Poland and Turkey detracted from relative performance. Central and eastern European currencies appeared to be subject to the general uncertainties stemming from the ongoing eurozone crisis.
• Investment positions in out-of-index countries that weighed on performance included India, where the rupee declined in the wake of the government's inability to pass legislation favorable to the attraction of foreign direct investment. In addition, stronger-than-usual seasonal selling in the Serbian dinar at year-end led to losses in the Fund's long currency position.

Investment Outlook And Fund Positioning 

Management continues to believe that the economic recovery in the United States is following a pattern typical of emergence from a financial recession. While the level of private sector deleveraging is encouraging, the sovereign fiscal condition continues to deteriorate and remains a concern.

We believe that markets will continue to focus on developments in Europe. Eurozone members are facing significant sovereign debt issuance requirements that will test the investors' commitment to supplying additional credit. Additionally, European banks are confronted with deteriorating liquidity at a time when they are also deleveraging in an attempt to shore up their balance sheets.

Management remains optimistic that the attractive fundamentals and available policy tools should help many emerging-market countries weather any potential economic slowdown stemming from the fallout in Europe.

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.

Fund primarily invests in an affiliated investment company (Portfolio) with the same objective(s) and policies as the Fund and may also invest directly. References to investments are to the Portfolio's holdings. Portfolio profile subject to change due to active management. Percentages may not total 100% due to rounding.

About Risk 

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. 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. 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. 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. 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. As interest rates rise, the value of certain income investments is likely to decline. Because the Fund investments may be concentrated in a particular geographic region or country, 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. Investments rated below investment grade (typically referred to as "junk") are generally subject to greater price volatility and illiquidity than higher rated investments. 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.

Fund primarily invests in an affiliated investment company (Portfolio) with the same objective(s) and policies as the Fund and may also invest directly. References to investments are to the Portfolio's holdings. Portfolio profile subject to change due to active management. Percentages may not total 100% due to rounding.

About Risk 

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. 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. 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. 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. 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. As interest rates rise, the value of certain income investments is likely to decline. Because the Fund investments may be concentrated in a particular geographic region or country, 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. Investments rated below investment grade (typically referred to as "junk") are generally subject to greater price volatility and illiquidity than higher rated investments. 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.