Emerging Markets Local Income Fund (I)

A Word On The Markets  as of Mar 31, 2012

Stronger-than-forecasted economic figures in the United States drove a rally in U.S. equity and high-yield debt markets. GDP growth that exceeded expectations coupled with improving employment statistics pushed yields higher on longer-dated U.S. Treasury bonds. Further pushing longer-dated yields higher was an indication from the Federal Reserve that additional quantitative easing may not be needed to stimulate the U.S. economy.

Unprecedented long-term refinancing operation (LTRO) measures used by the European Central Bank (ECB) to inject liquidity into the European banking systems helped bring a semblance of calm to the eurozone sovereign debt crisis. With over a trillion euros injected into the market, the euro depreciated against most Central and Eastern European countries. Greece was able to engineer the largest sovereign debt swap ever by enforcing retroactively inserted collective action clauses into its Greek law bonds. Yields on long-term Spanish debt rose, as the recently elected administration announced that the country would sharply miss its budget deficit target.

The Bank of Japan continued its asset buying program and announced an explicit consumer price inflation target of one percent. The yen depreciated versus the U.S. dollar in response. Most Latin American and Asian currencies appreciated versus the dollar during the period, as the liquidity measures from developed world central banks helped assuage fears of another sharp decline in global economic growth.

The Middle East and North Africa continued to be a source of event risk, as sanctions were levied against Iran, Syria headed toward outright civil war and the Mali government was overthrown via coup.

Performance Summary 

For the quarter ended March 31, 2012, Emerging Markets Local Income Fund outperformed its benchmark, the J.P. Morgan GBI-EM Global Diversified Index².

• Fueled by ample liquidity from developed world central banks, investors favored asset prices during the quarter and most foreign local bonds and currencies appreciated versus the U.S. dollar.
• Central and Eastern European markets gained during the quarter, as investors utilized the European Central Bank's liquidity measures to bid up asset prices in the European periphery.
• Latin American markets rallied during the period on the back of a relatively risk-on mood pervading the markets.
• Asian markets appreciated, with both local bond spreads tightening and local currencies appreciating.
• Overall, the Fund's investments in countries within the benchmark outperformed the Index, and the Fund's investments in countries not represented in the benchmark also contributed to excess returns.

Contributors 

Contributors to performance during the first quarter:

• Gains in both the bonds and the rand led the Fund's South African positions to contribute positively to performance.
• The Polish zloty rebounded from a weak prior quarter to lead most Central and Eastern European currencies, which led to gains on the Fund's investments in the country.
• Driven by positive economic news in the United States, investors grew bullish on the economic prospects for Mexico, which led to an appreciation of the Fund's investments in the peso-denominated bonds.
• The Malaysian ringgit appreciated versus the dollar during the quarter, which led to above-benchmark gains on the Fund's overweight investments in the country.
• Investments in Nigeria, Serbia, Uruguay and India countries not represented in the Fund's benchmark, all contributed to excess return during the period.

Detractors 

Detractors to performance during the first quarter:

• The Fund's slight underweight benchmark position in Russia detracted from excess performance when compared to the benchmark.
• Hedge positions, short external credit, in China and Egypt countries not represented in the Fund's benchmark, detracted from performance.

Investment Outlook And Fund Positioning 

Management believes that the economic recovery in the United States is following a pattern historically reflective of emergence from a financial recession. While growth has improved and unemployment has retreated, the country's fiscal balance sheet continues to deteriorate.

We believe that markets will continue to focus on developments in Europe, especially as it relates to Spain's ability to fight economic contraction, budget deterioration and sovereign debt cost escalation. Political risks remain high in the eurozone during the coming quarters as countries hold elections and attempt to push through highly unpopular austerity measures. Further, while European financials have benefited from recent liquidity injections, they remain the largest funding source for some of the weaker countries within the eurozone.

We feel that there are opportunities to invest in Asia, Latin America, and Central and Eastern Europe as well as Africa and the Middle East. Many of these countries benefit from strong economic and political fundamentals that may help them weather the continued market turmoil originating in the developed world.

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 or frontier 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 or frontier 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.