NORTHERN TAX-EXEMPT FIXED INCOME FUNDS

Transcription

1 NORTHERN TAX-EXEMPT FIXED INCOME FUNDS ANNUAL REPORT MARCH 31, 2017 MANAGED BY

2 A MESSAGE FROM BOB BROWNE CHIEF INVESTMENT OFFICER The 12-month period ended March 31, 2017 (the Period ), brought a wide dispersion of returns within the bond market. Even as credit-sensitive asset categories produced gains highlighted by a double-digit return for high-yield bonds more rate-sensitive segments of the market came under significant pressure. The evolving outlook for economic growth was the primary reason for this divergence. When the Period began, investors were fixated on the recent sharp drop in commodity prices, and its negative signal with regard to the world economy. As the Period progressed, however, the markets grew increasingly optimistic about the prospects for global growth. Central banks overseas took aggressive steps to spur growth in early 2016, leading to a rebound in commodities and improving economic data around the globe. Growth expectations were further boosted by the results of the November 2016 U.S. election, when the Republican party sweep raised hopes for lower taxes, higher infrastructure spending and a relaxation of federal government regulations. The improvement in growth and the rebound in commodities also contributed to an uptick in inflation, which represented a major departure from previous deflationary concerns that had cropped up at various points since the 2008 financial crisis. These developments prompted the U.S. Federal Reserve to move off of its longstanding policy of holding shortterm rates near zero. The U.S. Federal Reserve increased rates by a quarter point in December 2016 and again in March 2017, bringing the benchmark fed funds rate to a range of.75% to 1.00%. As of March 31, 2017 the consensus expectation was that the U.S. Federal Reserve would continue to raise rates gradually until it had achieved a normalized policy stance (i.e., one consistent with the level of growth and inflation). These circumstances acted as a headwind to U.S. Treasuries due to their above-average interest-rate risk. Yields rose and prices fell across the full maturity spectrum, highlighted by a move in the 10-year Treasury note to 2.40% at March 31, 2017 versus 1.78% a year earlier. The downturn in government issues, in turn, translated to weakness in other rate-sensitive asset classes such as mortgage-backed securities and municipal bonds. In contrast, investment-grade corporate issues bucked the broader trend by producing a positive return and outpacing U.S. Treasuries by a wide margin. Corporate issues were helped by the improvement in the economy, which contributed to stronger fundamentals for issuing companies, as well as a backdrop of healthy investor sentiment that supported demand for higher-yielding assets. High-yield bonds gained an even larger benefit from these trends, and they received an additional boost from the recovery in commodities. These factors contributed to a 12-month return of 16.39% for the Bloomberg Barclays U.S. Corporate High Yield 2% Issuer Capped Index. In comparison, the Bloomberg Barclays U.S. Aggregate Index (which represents investmentgrade issues, including corporate securities) produced a gain of just 0.44%. At the close of the Period, the combination of healthier economic data, rising inflation and better corporate results were all factors contributing to upward pressure on bond yields. While the impact of these trends has been offset by investor demand for lower-risk assets, we would expect periods of volatility as the markets react to headlines and shifting expectations for U.S. Federal Reserve policy. However, it is important to keep in mind that if yields rise, they are rising for a positive reason such as: stronger economic growth. In this environment, we urge investors to remain focused on the importance of bonds in providing portfolio diversification, liquidity and the means to fund near-term goals. Bob Browne Chief Investment Officer Northern Trust

3 TAX-EXEMPT FIXED INCOME FUNDS TABLE OF CONTENTS 2 PORTFOLIO MANAGEMENT COMMENTARY 10 STATEMENTS OF ASSETS AND LIABILITIES 12 STATEMENTS OF OPERATIONS 14 STATEMENTS OF CHANGES IN NET ASSETS 16 FINANCIAL HIGHLIGHTS 23 SCHEDULES OF INVESTMENTS 23 ARIZONA TAX-EXEMPT FUND Ticker Symbol: NOAZX This report has been prepared for the general information of Northern Funds shareholders. It is not authorized for distribution to prospective investors unless accompanied or preceded by a current Northern Funds summary prospectus or prospectus, which contains more complete information about the Northern Funds investment objectives, risks, fees and expenses. Investors are reminded to read a summary prospectus or prospectus carefully before investing or sending money. This report contains certain forward-looking statements about factors that may affect the performance of Northern Funds in the future. These statements are based on Northern Funds management predictions and expectations concerning certain future events, such as performance of the economy as a whole and of specific industry sectors, changes in the levels of interest rates, the impact of developing world events, and other factors. Management believes these forwardlooking statements to be reasonable, although they are inherently uncertain and difficult to predict. Actual events may cause adjustments in Northern Funds management strategies from those currently expected to be employed. 28 CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND Ticker Symbol: NCITX 36 CALIFORNIA TAX-EXEMPT FUND Ticker Symbol: NCATX 41 HIGH YIELD MUNICIPAL FUND Ticker Symbol: NHYMX 50 INTERMEDIATE TAX-EXEMPT FUND Ticker Symbol: NOITX 72 SHORT-INTERMEDIATE TAX-EXEMPT FUND Ticker Symbol: NSITX 88 TAX-EXEMPT FUND Ticker Symbol: NOTEX 103 NOTES TO THE FINANCIAL STATEMENTS 111 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 112 TAX INFORMATION 113 FUND EXPENSES 115 TRUSTEES AND OFFICERS 119 INVESTMENT CONSIDERATIONS 120 FOR MORE INFORMATION Northern Funds are distributed by Northern Funds Distributors, LLC, Three Canal Plaza, Suite 100, Portland, Maine 04101, not affiliated with Northern Trust. NOT FDIC INSURED May lose value / No bank guarantee NORTHERN FUNDS ANNUAL REPORT 1 TAX-EXEMPT FIXED INCOME FUNDS

4 TAX-EXEMPT FIXED INCOME FUNDS ARIZONA TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY The surprise election of Donald Trump to the U.S. presidency last November 2016 created a wholesale shift in the outlook for interest rates. Many investors reasoned that Trump s potential policies, likely featuring expanded fiscal stimulus and reduced taxes, should foster stronger economic growth and elevated inflation pressures. Additionally, the U.S. Federal Reserve ( Fed ) on its path of normalizing monetary policy by raising its benchmark rate 25 basis points in December 2016 and March 2017, and by signaling two additional hikes in As a result, after touching near record lows earlier, interest rates moved sharply higher during the 12-month period ended March 31, For example, 10-year Treasury yields rose by 62 basis points and 10-year municipal yields climbed 55 basis points. During the 12-month period ended March 31, 2017, the Arizona Tax-Exempt Fund, with an average maturity of 8.7 years, posted a return of -0.17%. The Fund underperformed its benchmark, the Bloomberg Barclays Arizona Municipal Bond Index, which generated a return of 0.22%. During the period, as municipal yields moved higher, we reduced the Fund s modified duration on a real and relative basis. However, an underweight to long-dated Arizona securities within the Fund s barbelled maturity positioning detracted from relative performance. Additionally, the Fund s considerably higher quality credit profile versus its benchmark and peers detracted from returns, as lower-rated bonds outperformed. At March 31, 2017, the Fund had less than 7% exposure to A-rated credits and no exposure to BBBrated bonds. In light of our expectations for higher interest rates, we added more defensive coupon and call structures to the portfolio. Going forward, we will measure the impact to the Arizona municipal market of any programs that are enacted at the federal level. In addition, we will monitor the Fed for any changes to its expected actions with regard to the federal funds rate and the Fed s sizable balance sheet. Lastly, we will closely monitor the supply/demand dynamics of the Arizona tax-exempt market as we look to capitalize on technical opportunities through active management. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 10/01/99 ARIZONA TAX-EXEMPT FUND -0.17% 3.20% 4.21% 4.65% BLOOMBERG BARCLAYS ARIZONA MUNICIPAL BOND INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. ERIC V. BOECKMANN With Northern Trust since 1985 GROWTH OF A $10,000 INVESTMENT $24,000 $22,000 $20,000 $18,000 $16,000 $14,000 $12,000 $10,000 $8,000 10/1/99 $22,161 $23,357 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. ARIZONA TAX-EXEMPT FUND BLOOMBERG BARCLAYS ARIZONA MUNICIPAL BOND INDEX The Bloomberg Barclays Arizona Municipal Bond Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt Arizona bonds with a remaining maturity of at least one year. The Fund is non-diversified under the Investment Company Act of 1940, and may invest more of its assets in fewer issuers than diversified mutual funds. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. TAX-EXEMPT FIXED INCOME FUNDS 2 NORTHERN FUNDS ANNUAL REPORT

5 TAX-EXEMPT FIXED INCOME FUNDS CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY The surprise election of Donald Trump to the U.S. presidency last November 2016 created a wholesale shift in the outlook for interest rates. Investors reasoned that Trump s potential policies, likely featuring expanded fiscal stimulus and reduced taxes, should foster stronger economic growth and elevated inflation pressures. Additionally, the U.S. Federal Reserve ( Fed ) on its path of normalizing monetary policy by raising its benchmark rate 25 basis points in December 2016 and March 2017, and by signaling two additional hikes in As a result, after touching near record lows earlier, interest rates moved sharply higher during the 12-month period ended March 31, For example, 10-year Treasury yields rose by 62 basis points and 10-year municipal yields climbed 55 basis points. During the 12-month period ended March 31, 2017, the California Intermediate Tax-Exempt Fund, with an average maturity of 8.5 years, posted a return of -0.87%. The Fund underperformed its benchmark, the Bloomberg Barclays California Intermediate Municipal Bond Index, which generated a return of -0.40%. During the period, as municipal yields moved higher, we reduced the Fund s modified duration on a real and relative basis. However, an underweight to long-dated California securities within the Fund s barbelled maturity positioning detracted from relative performance. Additionally, the Fund s considerably higher quality credit profile versus its benchmark and peers detracted from returns, as lower-rated bonds outperformed. At March 31, 2017, the Fund had less than 6% exposure to A-rated credits and almost no exposure to BBB-rated bonds. In light of our expectations for higher interest rates, we added more defensive coupon and call structures to the portfolio. Going forward, we will measure the impact to the California municipal market of any programs that are enacted at the federal level. In addition, we will monitor the Fed for any changes to its expected actions with regard to the federal funds rate and the Fed s sizable balance sheet. Lastly, we will closely monitor the supply/demand dynamics of the California tax-exempt market as we look to capitalize on technical opportunities through active management. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 10/01/99 CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND -0.87% 2.91% 3.72% 4.14% BLOOMBERG BARCLAYS CALIFORNIA INTERMEDIATE MUNICIPAL BOND INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. ERIC V. BOECKMANN With Northern Trust since 1985 GROWTH OF A $10,000 INVESTMENT $24,000 $22,000 $20,000 $18,000 $16,000 $14,000 $12,000 $10,000 $8,000 10/1/99 $20,328 $22,812 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND BLOOMBERG BARCLAYS CALIFORNIA INTERMEDIATE MUNICIPAL BOND INDEX The Bloomberg Barclays California Intermediate Municipal Bond Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt California bonds with maturities of five to ten years. The Fund is non-diversified under the Investment Company Act of 1940, and may invest more of its assets in fewer issuers than diversified mutual funds. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. NORTHERN FUNDS ANNUAL REPORT 3 TAX-EXEMPT FIXED INCOME FUNDS

6 TAX-EXEMPT FIXED INCOME FUNDS CALIFORNIA TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY The surprise election of Donald Trump to the U.S. presidency last November 2016 created a wholesale shift in the outlook for interest rates. Investors reasoned that Trump s potential policies, likely featuring expanded fiscal stimulus and reduced taxes, should foster stronger economic growth and elevated inflation pressures. Additionally, the U.S. Federal Reserve ( Fed ) on its path of normalizing monetary policy by raising its benchmark rate 25 basis points in December 2016 and March 2017, and by signaling two additional hikes in As a result, after touching near record lows earlier, interest rates moved sharply higher during the 12-month period ended March 31, For example, 10-year Treasury yields rose by 62 basis points and 10-year municipal yields climbed 55 basis points. During the 12-month period ended March 31, 2017, the California Tax-Exempt Fund, with an average maturity of 10.7 years, posted a return of -0.83%. The Fund underperformed its benchmark, the Bloomberg Barclays California Municipal Bond Index, which generated a return of -0.16%. During the period, as municipal yields moved higher, we reduced the Fund s modified duration on a real and relative basis. However, an underweight to long-dated California securities within the Fund s barbelled maturity positioning detracted from relative performance. Additionally, the Fund s considerably higher quality credit profile versus its benchmark and peers detracted from returns, as lower-rated bonds outperformed. At March 31, 2017, the Fund had less than 6% exposure to A-rated credits and no exposure to BBB-rated bonds. In light of our expectations for higher interest rates, we added more defensive coupon and call structures to the portfolio. Going forward, we will measure the impact to the California municipal market of any programs that are enacted at the federal level. In addition, we will monitor the Fed for any changes to its expected actions with regard to the federal funds rate and the Fed s sizable balance sheet. Lastly, we will closely monitor the supply/demand dynamics of the California tax-exempt market as we look to capitalize on technical opportunities through active management. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 04/08/97 CALIFORNIA TAX-EXEMPT FUND -0.83% 4.27% 5.04% 5.41% BLOOMBERG BARCLAYS CALIFORNIA MUNICIPAL BOND INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. ERIC V. BOECKMANN With Northern Trust since 1985 GROWTH OF A $10,000 INVESTMENT $30,000 $25,000 $20,000 $15,000 $10,000 4/8/97 $28,648 $27,949 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. CALIFORNIA TAX-EXEMPT FUND BLOOMBERG BARCLAYS CALIFORNIA MUNICIPAL BOND INDEX The Bloomberg Barclays California Municipal Bond Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt California bonds with a remaining maturity of at least one year. The Fund is non-diversified under the Investment Company Act of 1940, and may invest more of its assets in fewer issuers than diversified mutual funds. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. TAX-EXEMPT FIXED INCOME FUNDS 4 NORTHERN FUNDS ANNUAL REPORT

7 TAX-EXEMPT FIXED INCOME FUNDS HIGH YIELD MUNICIPAL FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY U.S. interest rates rose during the 12-month period ended March 31, 2017, reflecting a backdrop of mixed actions by world central banks, global political events, optimism about the economic outlook following the election of Donald Trump and changing U.S. Federal Reserve ( Fed ) policy. The Fed began normalizing its monetary policy by hiking rates in December 2016 and March 2017, and it indicated that the ultra-accommodative policies in effect since the financial crisis would be removed slowly after the March 2017 rate hike. The municipal bond market posted mixed returns in the 12-month period, with high-yield municipals outperforming investment-grade issues due to low new issue supply and positive developments for certain Puerto Rico and Chicago credits. In addition, the tobacco sector responded to favorable news regarding debt restructuring. The market posted strong returns early in the period, but subsequently gave back ground in response to the increase in U.S. Treasury rates. The market also was negatively affected by concerns regarding the potential impact of lower income tax rates in the wake of Donald Trump s U.S. election victory. Performance was further pressured by heavy outflows from municipal bond mutual funds stemming from forced selling amid diminished market liquidity near the end of The municipal market recovered in the final three months of the period as mutual fund flows turned positive and new issue supply was manageable. The Fund returned -0.10% for the 12-month period ended March 31, 2017, underperforming the 1.60% return of the Bloomberg Barclays Municipal Bond Investment Grade/High Yield Index. Since investment-grade municipals are more correlated to U.S. Treasury movements than lower-rated issues, the Fund s overweight to long duration, higher quality holdings detracted from performance. Puerto Rico and tobacco were the best performing sectors of the municipal market during the period. Although the Fund participated in the strong returns of tobacco issues, an underweight in the sector had an adverse affect on relative performance. Our avoidance of Puerto Rico credits also contributed to the Fund s underperformance. However, holdings in high coupon securities with shorter call dates aided results. Some of the Fund s holdings were advance refunded to the call date, resulting in significant price appreciation. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 12/31/98 HIGH YIELD MUNICIPAL FUND -0.10% 4.31% 3.11% 3.80% BLOOMBERG BARCLAYS MUNICIPAL BOND INVESTMENT GRADE/HIGH YIELD INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. M. JANE MCCART With Northern Trust since 1998 GROWTH OF A $10,000 INVESTMENT $25,000 $20,000 $15,000 $10,000 $5,000 12/31/98 $19,745 $24,226 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. HIGH YIELD MUNICIPAL FUND BLOOMBERG BARCLAYS MUNICIPAL BOND INVESTMENT GRADE/HIGH YIELD INDEX The Bloomberg Barclays Municipal Bond Investment Grade/High Yield Index is an unmanaged index of investment and non-investment grade bonds with a 65% weighting in the Bloomberg Barclays U.S. Municipal Index and a 35% weighting to the Barclays Municipal High Yield Index. The Fund invests in below investment-grade debt obligations, commonly known as junk bonds. While offering higher current yields, these securities generally are considered speculative and are subject to greater risks than higher-rated bonds. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. NORTHERN FUNDS ANNUAL REPORT 5 TAX-EXEMPT FIXED INCOME FUNDS

8 TAX-EXEMPT FIXED INCOME FUNDS INTERMEDIATE TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY Tax-free interest rates increased by a range of 35 to 55 basis points across the yield curve during the 12-month period ended March 31, The U.S. Federal Reserve ( Fed ) raised short-term rates by 25 basis points two times during the period. The November 2016 U.S. election raised expectations for risk assets, as deregulation, tax cuts and repatriation of assets were very much on investors minds. In an environment of higher rates and increased investor risk appetite, the Fund returned -0.48% for the 12-month period ended March 31, Fund income flow and annual roll down, i.e., aging of holdings, offset most macroeconomic negative factors to produce a slightly negative return overall. The Fund s benchmark, the Bloomberg Barclays Intermediate Municipal Bond Index ( Index ), returned -0.10% for the 12-month period ended March 31, The Fund has a much higher quality profile than the Index, causing the difference in returns, as BBB-rated securities outperformed AAA-rated issues. The Fund s duration profile or sensitivity to interest rate changes contributed to performance. Fund duration was nearly 10% below normal, 4.0 to 4.5 years, which helped to cushion the negative effect of rising rates. In addition, the Fund invested in very short-term municipals in place of cash sweep vehicles as a way to enhance its shortest duration holdings. Dedicated essential-service revenue bonds backed by sales and transportation taxes as well as water/sewer and public power bonds were top performers during the period. California- and New Yorkdomiciled issuers the top two states represented in the portfolio also performed well as investor demand was robust. The Fund s quality profile remains high, with over 90% of holdings in AA or AAA bonds. The Fund will continue to utilize an active relative value strategy, focusing on yield curve-, sector-, state- and security-specific decisions to seek attractive tax-free total return. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 04/01/94 INTERMEDIATE TAX-EXEMPT FUND -0.48% 2.49% 3.61% 4.21% BLOOMBERG BARCLAYS INTERMEDIATE MUNICIPAL BOND INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. TIMOTHY T.A. MCGREGOR With Northern Trust since 1989 GROWTH OF A $10,000 INVESTMENT $35,000 $30,000 $25,000 $20,000 $15,000 $10,000 $5,000 4/1/94 $25,808 $31,432 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. INTERMEDIATE TAX-EXEMPT FUND BLOOMBERG BARCLAYS INTERMEDIATE MUNICIPAL BOND INDEX The Bloomberg Barclays Intermediate Municipal Bond Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt bonds with maturities of five to ten years. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. TAX-EXEMPT FIXED INCOME FUNDS 6 NORTHERN FUNDS ANNUAL REPORT

9 TAX-EXEMPT FIXED INCOME FUNDS SHORT-INTERMEDIATE TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY After hitting historic lows in mid-2016, U.S. Treasury yields began a slow ascent through the third quarter The subsequent election of a new U.S. administration, coupled with the growing likelihood of fiscal stimulus, fueled expectations for stronger economic growth and led to a rapid rise in U.S. Treasury yields in November The Federal Open Market Committee ( FOMC ) implemented two quarter-point increases to the federal funds rate and began discussions about reducing the size of the U.S. Federal Reserve s balance sheet. The Treasury yield curve steepened, with yields on longer-dated bonds rising more than yields on shorter-term issues. The tax-exempt market outperformed Treasuries largely due to a significant reduction in new issue supply late in the period. Higher interest rates and fewer refunding candidates contributed to a sharp decline in refinancing volume. State and local governments also pulled back on new projects due to uncertainty surrounding the new administration s plans for tax reform and infrastructure spending. For the 12-month period ended March 31, 2017, the Fund returned -0.10%, underperforming the 0.53% return of the Fund s benchmark, Bloomberg Barclays 1-5 Year Blend Municipal Bond Index. The Fund s high credit quality was the primary detractor from relative performance, as lower rated investment-grade bonds outperformed. The benchmark consists of roughly 25% A-rated and BBBrated securities, while the Fund holds no BBB issues and a weighting of less than 2% in those rated A. The Fund s more conservative credit focus is predicated on a desire for principal preservation and the maintenance of superior liquidity, consistent with our active relative-value strategy. An overweight in the seven-year maturity range enhanced relative performance. Although the overall yield curve steepened, the curve flattened in the five- to seven-year range. We took a gradual but strategic approach to reducing duration throughout the latter stages of the period, based on our belief that interest rates, while likely to remain volatile, will rise. We believe that the Fund s defensive posture, higher credit quality, lower duration and premium coupon structure are appropriate as the market navigates an environment of rising interest rates and changing fiscal policy. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR THREE YEAR FIVE YEAR SINCE INCEPTION 08/22/07 SHORT-INTERMEDIATE TAX-EXEMPT FUND -0.10% 0.88% 0.85% 2.06% BLOOMBERG BARCLAYS 1-5 YEAR BLEND MUNICIPAL BOND INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/ funds. TIMOTHY P. BLAIR With Northern Trust since 1992 GROWTH OF A $10,000 INVESTMENT $14,000 $13,000 $12,000 $11,000 $10,000 8/22/07 $12,164 $13,214 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. SHORT-INTERMEDIATE TAX-EXEMPT FUND BLOOMBERG BARCLAYS 1-5 YEAR BLEND MUNICIPAL BOND INDEX The Bloomberg Barclays 1-5 Year Blend Municipal Bond Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt bonds with maturities of at least one year and less than six years. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. NORTHERN FUNDS ANNUAL REPORT 7 TAX-EXEMPT FIXED INCOME FUNDS

10 TAX-EXEMPT FIXED INCOME FUNDS TAX-EXEMPT FUND (UNAUDITED) PORTFOLIO MANAGEMENT COMMENTARY Tax-free interest rates increased by a range of 35 to 55 basis points across the yield curve during the 12-month period ended March 31, The U.S. Federal Reserve raised short-term rates by 25 basis points two times during the period. The November 2016 U.S. election raised expectations for risk assets, as deregulation, tax cuts and repatriation of assets were very much on investors minds. In an environment of higher rates and increased investor risk appetite, the Fund returned -0.16% for the 12-month period ended March 31, Fund income flow and annual roll down, i.e., aging of holdings, offset most macroeconomic negative factors to produce a slightly negative return overall. The Fund s benchmark, the Bloomberg Barclays U.S. Municipal Index ( Index ), returned 0.15% for the 12-month period ended March 31, The Fund has a much higher quality profile than the Index, causing the difference in returns, as BBB-rated securities outperformed AAA-rated issues. The Fund s duration profile or sensitivity to interest rate changes contributed to performance. Fund duration was 5% to 10% below normal, 4.5 to 5.0 years, which helped to cushion the negative effect of rising rates. Dedicated essential-service revenue bonds backed by sales and transportation taxes as well as water/sewer and public power bonds were top performers during the period. California- and New York-domiciled issuers the top two states represented in the portfolio also performed well as investor demand was robust. The Fund s quality profile remains high, with 85% of holdings in AA or AAA bonds. The Fund will continue to utilize an active relative value strategy, focusing on yield curve-, sector-, state- and security-specific decisions to seek attractive tax-free total return. INVESTMENT PERFORMANCE PORTFOLIO MANAGER AVERAGE ANNUAL RETURNS for periods ended March 31, 2017 TOTAL RETURN ONE YEAR FIVE YEAR TEN YEAR SINCE INCEPTION 04/01/94 TAX-EXEMPT FUND -0.16% 3.44% 4.33% 5.04% BLOOMBERG BARCLAYS U.S. MUNICIPAL INDEX Fund performance reflects contractual expense reimbursements in effect. In their absence, performance would be reduced. Performance quoted represents past performance and does not guarantee future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here. Performance data current to the most recent month-end is available at northerntrust.com/funds. TIMOTHY T.A. MCGREGOR With Northern Trust since 1989 GROWTH OF A $10,000 INVESTMENT $35,000 $30,000 $25,000 $20,000 $15,000 $10,000 $5,000 4/1/94 $30,966 $33,169 3/31/17 The graph and table do not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares. Unlike the Index, the Fund s total returns are reduced by operating expenses, such as transaction costs and management fees. A direct investment in an Index is not possible. TAX-EXEMPT FUND BLOOMBERG BARCLAYS U.S. MUNICIPAL INDEX The Bloomberg Barclays U.S. Municipal Index is an unmanaged index of investment grade (Baa3 or better) tax-exempt bonds with a remaining maturity of at least one year. Income from the Fund may be subject to federal alternative minimum tax (AMT) and state and local taxes. Information about Investment Considerations can be found on page 119. TAX-EXEMPT FIXED INCOME FUNDS 8 NORTHERN FUNDS ANNUAL REPORT

11 TAX-EXEMPT FIXED INCOME FUNDS THIS PAGE INTENTIONALLY LEFT BLANK NORTHERN FUNDS ANNUAL REPORT 9 TAX-EXEMPT FIXED INCOME FUNDS

12 TAX-EXEMPT FIXED INCOME FUNDS STATEMENTS OF ASSETS AND LIABILITIES Amounts in thousands, except per share data ARIZONA TAX-EXEMPT FUND CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND CALIFORNIA TAX-EXEMPT FUND ASSETS: Investments, at value $98,775 $449,138 $167,589 Investments in affiliates, at value 10,157 21,202 13,853 Interest income receivable 915 4,932 1,593 Receivable for securities sold 1,079 Receivable for fund shares sold Receivable from investment adviser Prepaid and other assets Total Assets 110, , ,078 LIABILITIES: Payable for securities purchased Payable for when-issued securities 7,438 4,461 4,614 Payable for fund shares redeemed Distributions payable to shareholders Payable to affiliates: Management fees Custody fees Shareholder servicing fees Transfer agent fees 1 Trustee fees Accrued other liabilities Total Liabilities 8,058 5,104 5,221 Net Assets $102,928 $470,326 $177,857 ANALYSIS OF NET ASSETS: Capital stock $101,421 $464,548 $171,122 Accumulated undistributed net investment loss (10) (4) (1) Accumulated undistributed net realized loss (1,739) (4,602) (2,745) Net unrealized appreciation 3,256 10,384 9,481 Net Assets $102,928 $470,326 $177,857 Shares Outstanding ($.0001 par value, unlimited authorization) 9,770 44,497 15,492 Net Asset Value, Redemption and Offering Price Per Share $10.54 $10.57 $11.48 Investments, at cost $95,519 $438,754 $158,108 Investments in affiliates, at cost 10,157 21,202 13,853 TAX-EXEMPT FIXED INCOME FUNDS 10 NORTHERN FUNDS ANNUAL REPORT

13 MARCH 31, 2017 HIGH YIELD MUNICIPAL FUND INTERMEDIATE TAX-EXEMPT FUND SHORT- INTERMEDIATE TAX-EXEMPT FUND TAX-EXEMPT FUND $461,488 $2,534,844 $936,587 $1,046,536 9, ,686 97,902 25,318 6,749 28,502 11,054 12,853 2,754 1,977 6,701 1, ,958 1, ,756 2,809,990 1,054,149 1,086,787 1,554 1,105 51,807 5,504 7, , , , ,921 57,421 6,899 9,531 $476,835 $2,752,569 $1,047,250 $1,077,256 $504,853 $2,762,137 $1,039,545 $1,071,176 (1) (199) (277) (256) (45,179) (35,803) (1,180) (14,611) 17,162 26,434 9,162 20,947 $476,835 $2,752,569 $1,047,250 $1,077,256 54, , , ,119 $8.69 $10.40 $10.33 $10.55 $444,326 $2,508,410 $927,425 $1,025,589 9, ,686 97,902 25,318 NORTHERN FUNDS ANNUAL REPORT 11 TAX-EXEMPT FIXED INCOME FUNDS

14 TAX-EXEMPT FIXED INCOME FUNDS STATEMENTS OF OPERATIONS CALIFORNIA Amounts in thousands ARIZONA TAX-EXEMPT FUND INTERMEDIATE TAX-EXEMPT FUND INVESTMENT INCOME: Interest income $3,667 $14,609 Dividend income from investments in affiliates Total Investment Income 3,687 14,645 EXPENSES: Management fees 509 2,192 Custody fees Transfer agent fees Registration fees Printing fees Professional fees Shareholder servicing fees Trustee fees Other Total Expenses 733 2,602 Less expenses reimbursed by investment adviser (187) (295) Net Expenses 546 2,307 Net Investment Income 3,141 12,338 NET REALIZED AND UNREALIZED GAINS (LOSSES): Net realized gains (losses) on: Investments (897) (1,283) Net change in unrealized appreciation (depreciation) on: Investments (3,336) (16,769) Net Losses (4,233) (18,052) Net Decrease in Net Assets Resulting from Operations $(1,092) $(5,714) TAX-EXEMPT FIXED INCOME FUNDS 12 NORTHERN FUNDS ANNUAL REPORT

15 FOR THE FISCAL YEAR ENDED MARCH 31, 2017 CALIFORNIA TAX-EXEMPT FUND HIGH YIELD MUNICIPAL FUND INTERMEDIATE TAX-EXEMPT FUND SHORT- INTERMEDIATE TAX-EXEMPT FUND TAX-EXEMPT FUND $6,671 $26,501 $75,326 $18,057 $38, ,691 26,542 75,706 18,159 38, ,634 13,299 4,795 4, , ,193 4,958 15,404 5,348 5,572 (297) (130) (1,113) (313) (349) 896 4,828 14,291 5,035 5,223 5,795 21,714 61,415 13,124 33,748 (1,367) (9,446) (12,112) 448 (7,235) (6,792) (18,226) (76,755) (14,773) (32,918) (8,159) (27,672) (88,867) (14,325) (40,153) $(2,364) $(5,958) $(27,452) $(1,201) $(6,405) NORTHERN FUNDS ANNUAL REPORT 13 TAX-EXEMPT FIXED INCOME FUNDS

16 TAX-EXEMPT FIXED INCOME FUNDS STATEMENTS OF CHANGES IN NET ASSETS ARIZONA TAX-EXEMPT FUND CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND Amounts in thousands OPERATIONS: Net investment income $3,141 $3,126 $12,338 $12,532 Net realized gains (losses) (897) 554 (1,283) 1,411 Net change in unrealized appreciation (depreciation) (3,336) 387 (16,769) 5,255 Net Increase (Decrease) in Net Assets Resulting from Operations (1,092) 4,067 (5,714) 19,198 CAPITAL SHARE TRANSACTIONS: Net increase (decrease) in net assets resulting from capital share transactions (984) 19,052 (15,044) 26,286 Net Increase (Decrease) in Net Assets Resulting from Capital Share Transactions (984) 19,052 (15,044) 26,286 DISTRIBUTIONS PAID: From net investment income (3,141) (3,126) (12,338) (12,532) From net realized gains (1,350) (544) (4,730) (861) Total Distributions Paid (4,491) (3,670) (17,068) (13,393) Total Increase (Decrease) in Net Assets (6,567) 19,449 (37,826) 32,091 NET ASSETS: Beginning of year 109,495 90, , ,061 End of year $102,928 $109,495 $470,326 $508,152 Accumulated Undistributed Net Investment Loss $(10) $(10) $(4) $(4) TAX-EXEMPT FIXED INCOME FUNDS 14 NORTHERN FUNDS ANNUAL REPORT

17 FOR THE FISCAL YEARS ENDED MARCH 31, CALIFORNIA TAX-EXEMPT FUND HIGH YIELD MUNICIPAL FUND INTERMEDIATE TAX-EXEMPT FUND SHORT- INTERMEDIATE TAX-EXEMPT FUND TAX-EXEMPT FUND $5,795 $4,996 $21,714 $15,453 $61,415 $63,946 $13,124 $14,911 $33,748 $32,199 (1,367) 1,343 (9,446) (136) (12,112) 21, (7,235) 5,356 (6,792) 1,606 (18,226) 6,843 (76,755) 23,255 (14,773) 2,531 (32,918) 4,913 (2,364) 7,945 (5,958) 22,160 (27,452) 108,975 (1,201) 17,609 (6,405) 42,468 (1,657) 40,961 (71,396) 232,589 (273,666) (14,772) (97,190) (234,438) 53, ,368 (1,657) 40,961 (71,396) 232,589 (273,666) (14,772) (97,190) (234,438) 53, ,368 (5,795) (4,996) (21,715) (15,453) (61,415) (63,945) (13,132) (14,910) (33,748) (32,199) (2,068) (45,383) (12,678) (1,776) (437) (1,079) (7,863) (4,996) (21,715) (15,453) (106,798) (76,623) (14,908) (15,347) (34,827) (32,199) (11,884) 43,910 (99,069) 239,296 (407,916) 17,580 (113,299) (232,176) 12, , , , , ,608 3,160,485 3,142,905 1,160,549 1,392,725 1,064, ,091 $177,857 $189,741 $476,835 $575,904 $2,752,569 $3,160,485 $1,047,250 $1,160,549 $1,077,256 $1,064,728 $(1) $(1) $(1) $ $(199) $(199) $(277) $(288) $(256) $(256) NORTHERN FUNDS ANNUAL REPORT 15 TAX-EXEMPT FIXED INCOME FUNDS

18 TAX-EXEMPT FIXED INCOME FUNDS FINANCIAL HIGHLIGHTS ARIZONA TAX-EXEMPT FUND Selected per share data Net Asset Value, Beginning of Year $10.96 $10.93 $10.66 $11.03 $10.91 INCOME (LOSS) FROM INVESTMENT OPERATIONS: Net investment income Net realized and unrealized gains (losses) (0.30) (0.33) 0.26 Total from Investment Operations (0.01) LESS DISTRIBUTIONS PAID: From net investment income (0.29) (0.34) (0.36) (0.36) (0.35) From net realized gains (0.12) (0.06) (0.03) (0.04) (0.14) Total Distributions Paid (0.41) (0.40) (0.39) (0.40) (0.49) Net Asset Value, End of Year $10.54 $10.96 $10.93 $10.66 $11.03 Total Return (1) (0.17)% 4.06% 6.26% 0.41% 5.63% SUPPLEMENTAL DATA AND RATIOS: Net assets, in thousands, end of year $102,928 $109,495 $90,046 $78,914 $120,839 Ratio to average net assets of: Expenses, net of reimbursements and credits 0.46% (2) 0.46% 0.46% (2) 0.45% (2) 0.45% (2) Expenses, before reimbursements and credits 0.62% 0.59% 0.70% 0.96% 0.93% Net investment income, net of reimbursements and credits 2.65% (2) 3.17% 3.32% (2) 3.38% (2) 3.16% (2) Net investment income, before reimbursements and credits 2.49% 3.04% 3.08% 2.87% 2.68% Portfolio Turnover Rate 83.45% 60.73% 85.31% 30.69% 34.54% (1) (2) Assumes investment at net asset value at the beginning of the year, reinvestment of all dividends and distributions, and a complete redemption of the investment at net asset value at the end of the year. The net expenses and net investment income ratios include additional reimbursements of management or advisory fees, as applicable, incurred in connection with the investment of uninvested cash in affiliated money market funds of approximately $16,000, which represents less than 0.02 percent of average net assets for the fiscal year ended March 31, 2017, and less than $1,000, which represents less than percent of average net assets for each of the fiscal years ended March 31, 2015 and 2014, and approximately $2,000, which represents less than percent of average net assets for the fiscal year ended March 31, 2013, respectively. Absent the additional reimbursements, net investment income and reimbursements would have been decreased and net expenses would have been increased by a corresponding amount. TAX-EXEMPT FIXED INCOME FUNDS 16 NORTHERN FUNDS ANNUAL REPORT

19 FOR THE FISCAL YEARS ENDED MARCH 31, CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND Selected per share data Net Asset Value, Beginning of Year $11.03 $10.90 $10.57 $10.84 $10.74 INCOME (LOSS) FROM INVESTMENT OPERATIONS: Net investment income Net realized and unrealized gains (losses) (0.36) (0.25) 0.23 Total from Investment Operations (0.10) LESS DISTRIBUTIONS PAID: From net investment income (0.26) (0.28) (0.28) (0.30) (0.33) From net realized gains (0.10) (0.02) (0.02) (0.12) Total Distributions Paid (0.36) (0.30) (0.28) (0.32) (0.45) Net Asset Value, End of Year $10.57 $11.03 $10.90 $10.57 $10.84 Total Return (1) (0.87)% 4.03% 5.84% 0.54% 5.17% SUPPLEMENTAL DATA AND RATIOS: Net assets, in thousands, end of year $470,326 $508,152 $476,061 $359,151 $411,822 Ratio to average net assets of: Expenses, net of reimbursements and credits 0.45% (2) 0.45% 0.45% (2) 0.45% (2) 0.45% (2) Expenses, before reimbursements and credits 0.51% 0.50% 0.58% 0.86% 0.86% Net investment income, net of reimbursements and credits 2.42% (2) 2.59% 2.61% (2) 2.90% (2) 2.92% (2) Net investment income, before reimbursements and credits 2.36% 2.54% 2.48% 2.49% 2.51% Portfolio Turnover Rate 64.62% 81.80% % 98.76% 55.59% (1) (2) Assumes investment at net asset value at the beginning of the year, reinvestment of all dividends and distributions, and a complete redemption of the investment at net asset value at the end of the year. The net expenses and net investment income ratios include additional reimbursements of management or advisory fees, as applicable, incurred in connection with the investment of uninvested cash in affiliated money market funds of approximately $28,000, which represents less than 0.01 percent of average net assets for the fiscal year ended March 31, 2017, less than $1,000, which represents less than percent of average net assets for the fiscal year ended March 31, 2015, and approximately $3,000 and $6,000, which represents less than percent of average net assets for each of the fiscal years ended March 31, 2014, and 2013, respectively. Absent the additional reimbursements, net investment income and reimbursements would have been decreased and net expenses would have been increased by a corresponding amount. NORTHERN FUNDS ANNUAL REPORT 17 TAX-EXEMPT FIXED INCOME FUNDS

20 TAX-EXEMPT FIXED INCOME FUNDS FINANCIAL HIGHLIGHTS CALIFORNIA TAX-EXEMPT FUND Selected per share data Net Asset Value, Beginning of Year $12.06 $11.86 $11.26 $11.78 $11.57 INCOME (LOSS) FROM INVESTMENT OPERATIONS: Net investment income Net realized and unrealized gains (losses) (0.45) (0.31) 0.53 Total from Investment Operations (0.10) LESS DISTRIBUTIONS PAID: From net investment income (0.35) (0.38) (0.38) (0.40) (0.35) From net realized gains (0.13) (0.21) (0.32) Total Distributions Paid (0.48) (0.38) (0.38) (0.61) (0.67) Net Asset Value, End of Year $11.48 $12.06 $11.86 $11.26 $11.78 Total Return (1) (0.83)% 4.97% 8.84% 0.97% 7.73% SUPPLEMENTAL DATA AND RATIOS: Net assets, in thousands, end of year $177,857 $189,741 $145,831 $119,640 $164,113 Ratio to average net assets of: Expenses, net of reimbursements and credits 0.46% (2) 0.46% 0.46% (2) 0.45% (2) 0.45% (2) Expenses, before reimbursements and credits 0.61% 0.60% 0.71% 0.99% 0.97% Net investment income, net of reimbursements and credits 2.95% (2) 3.18% 3.29% (2) 3.55% (2) 2.93% (2) Net investment income, before reimbursements and credits 2.80% 3.04% 3.04% 3.01% 2.41% Portfolio Turnover Rate 97.34% % % % % (1) (2) Assumes investment at net asset value at the beginning of the year, reinvestment of all dividends and distributions, and a complete redemption of the investment at net asset value at the end of the year. The net expenses and net investment ratios include additional reimbursement of management or advisory fees, as applicable, incurred in connection with the investment cash in affiliated money market funds of approximately $16,000, which represents less than 0.01 percent of average net assets for the fiscal year ended March 31, 2017, less than $1,000, which represents less than percent of average net assets for the fiscal year ended March 31, 2015, and approximately $1,000 and $6,000, which represents less than percent of average net assets for each of the fiscal years ended March 31, 2014, and 2013, respectively. Absent the additional reimbursements, net investment income and reimbursements would have been decreased and net expenses would have been increased by a corresponding amount. TAX-EXEMPT FIXED INCOME FUNDS 18 NORTHERN FUNDS ANNUAL REPORT

21 FOR THE FISCAL YEARS ENDED MARCH 31, HIGH YIELD MUNICIPAL FUND Selected per share data Net Asset Value, Beginning of Year $9.02 $8.93 $8.49 $9.04 $8.66 INCOME (LOSS) FROM INVESTMENT OPERATIONS: Net investment income Net realized and unrealized gains (losses) (0.33) (0.55) 0.38 Total from Investment Operations (0.01) (0.15) 0.78 LESS DISTRIBUTIONS PAID: From net investment income (0.32) (0.33) (0.38) (0.40) (0.40) Total Distributions Paid (0.32) (0.33) (0.38) (0.40) (0.40) Net Asset Value, End of Year $8.69 $9.02 $8.93 $8.49 $9.04 Total Return (1) (0.10)% 4.80% 9.79% (1.51)% 9.10% SUPPLEMENTAL DATA AND RATIOS: Net assets, in thousands, end of year $476,835 $575,904 $336,608 $240,728 $327,321 Ratio to average net assets of: Expenses, net of reimbursements and credits 0.80% (2) 0.80% 0.80% (2) 0.80% (2) 0.80% (2) Expenses, before reimbursements and credits 0.82% 0.83% 0.89% 0.98% 0.97% Net investment income, net of reimbursements and credits 3.60% (2) 3.67% 4.29% (2) 4.73% (2) 4.42% (2) Net investment income, before reimbursements and credits 3.58% 3.64% 4.20% 4.55% 4.25% Portfolio Turnover Rate 39.67% 7.20% 8.16% 10.66% 6.29% (1) (2) Assumes investment at net asset value at the beginning of the year, reinvestment of all dividends and distributions, and a complete redemption of the investment at net asset value at the end of the year. The net expenses and net investment income ratios include additional reimbursements of management or advisory fees, as applicable, incurred in connection with the investment of uninvested cash in affiliated money market funds of approximately $42,000, which represents less than 0.01 percent of average net assets for the fiscal year ended March 31, 2017, less than $1,000, which represents less than percent of average net assets for the fiscal year ended March 31, 2015, and approximately $1,000 and $2,000, which represents less than percent of average net assets for each of the fiscal years ended March 31, 2014 and 2013, respectively. Absent the additional reimbursements, net investment income and reimbursements would have been decreased and net expenses would have been increased by a corresponding amount. NORTHERN FUNDS ANNUAL REPORT 19 TAX-EXEMPT FIXED INCOME FUNDS