The fund outperformed its benchmark by 1.3% p.a. over a rolling 3-year period (12.7% versus 11.4% p.a.) and by 1.9% p.a. over a rolling 5-year period (11.9% versus 10% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods. Global news continues to be dominated by the sovereign debt crisis in Euroland. The lack of decisive action by the European Central Bank (ECB) and the European Union in resolving the Greek crisis allowed contagion to spread from the periphery to Spain and Italy. This resulted in the bond market bidding up the yields of these countries to levels where they would be unable to finance their deficits. Unlike Greece, Spain and Italy are too big to fail and given the entwined nature of the European banking system, any default would have dire consequences for the global economy. Investor uncertainty was also fuelled by political wrangling in the US that resulted in a last minute decision by congress to raise the debt ceiling to combat a weakening economy. This culminated in ratings agency, Standard and Poor's, downgrading US debt - the first time in the country's history. This led to widespread panic as investors fled to safe-haven assets, resulting in a significant appreciation in the gold price and sharp compression in the yields of US treasuries notwithstanding the credit downgrade. Developed and emerging equity markets sold-off aggressively with massive intra-day volatility. This culminated in the US Federal Reserve committing to maintain interest rates at close to zero levels until at least mid-2013. Even the ECB has softened its stance on inflation given the precarious state of the global economy.

The combination of accommodative global monetary and fiscal policy together with rising food and oil prices is likely to lead to higher inflation. In this scenario, equities remain our preferred asset class for producing inflation-beating returns. We continue to favour global over domestic equities - multinational blue-chip companies are the cheapest they have been in three decades with attractive dividend yields (especially when compared to cash) and pristine balance sheets. We remain at the maximum allowed offshore exposure. The All Share Index returned -5.8% for the quarter. Financials were the best performer with a -3.1% return. Industrials returned -3.3% and resources were the worst performer, with a -10% return. Resource stocks have been poor performers in response to disappointing global economic growth and renewed fears that world may slip back into recession. We used this opportunity to add to the diversified miners (specifically Anglo American), Sasol and the paper stocks. While most commodity prices remain high, we believe that resources offer value, with selected resource shares trading at less than 10 times our assessment of normal earnings and have moved slightly overweight. We, however, remain underweight gold and platinum producers given our concerns over declining grades and enormous cost pressures faced by these businesses (labour, electricity and water). Banks returned -3.3% for the quarter, underperforming other financials. Banks are currently unloved by the market and this is reflected in their significant underperformance relative to the market. We believe earnings are low (low net interest margins and high bad debts) and this, coupled with a low rating, presents an attractive investment proposition. We remain overweight banks given attractive valuations at 9 times our assessment of normal earnings and price-to-book ratios of 1.7 times. Inflation continues to tick up in South Africa with August CPI coming in at 5.3%. We remain bearish on the inflation outlook given the significant cost pressure being exerted by administered prices (most notably electricity tariffs), property rates and taxes, rising food prices and high wage settlements without the commensurate productivity gains. We expect CPI to breach the upper end of the South African Reserve Bank's 3 to 6% target band either later this year or early next year with risk to the upside. As a result, we expect the next meaningful move in interest rates to be higher, although the timing may be pushed out given the global economic environment. We continue to believe the rand is overvalued and have approximately 60% of the fund invested in rand hedges such as MTN, SABMiller, Naspers and Bidvest.

The earnings of the average industrial company are up four times since the start of the decade and even more so for consumer-facing businesses. We believe it will be a challenge to defend and grow off this base. Consequently, we own very little retailers, other than Woolworths and Mr Price and remain defensively positioned. We continue to find value in selected small caps with approximately a third of the fund invested in shares outside the ALSI40. The fund currently offers 53% upside to our assessment of fair value for the underlying counters. In conclusion, there is no shortage of uncertainties in the global economy. As a result, markets are likely to remain volatile and challenging for some time to come. As a long-term investor, this is not bad news as times of uncertainty often create opportunities when emotion trumps reason. We look forward to capitalising on these opportunities.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund outperformed its benchmark by 4.7% p.a. over a rolling 3-year period (12.2% versus 7.6% p.a.) and by 1.8% p.a. over a rolling 5-year period (14.2% versus 12.4% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods. News surrounding the global economy has been mostly negative over the past quarter. The US housing market remains weak with house prices continuing to decline, while consumer spending also remains sluggish with household budgets under even more pressure now that inflation has edged higher. The disappointing economic performance has raised the possibility of another round of quantitative easing aimed at stimulating growth - a scenario that was not even mooted a quarter or two ago.

Furthermore, the Eurozone continues to be plagued by sovereign debt concerns. At the time of writing, the Greek parliament voted in favour of a new austerity package. The revised package was a pre-requisite for the €12 billion aid payment from the EU and IMF without which Greece would have defaulted on its sovereign debt. While a default may have been avoided for now, it is merely a stay of execution. To date, the market has done a fair job of pricing in a default by a small country like Greece, but not for a significant sovereign like Spain, Italy or worse. The implication of this is that global interest rates are likely to remain lower for longer, supporting the pricing of risk assets as capital continues to scour the globe in search of yield. We increased our equity exposure during the quarter on the back of market weakness and continue to hold close to what we consider to be a neutral position. Equities remain our preferred asset class for producing superior long-term returns. We continue to believe that global equities offer more value when compared to local equities, especially in the context of an unsustainably strong rand and therefore remain at the maximum limit on offshore exposure within the fund.

The All Share Index returned -0.6% for the quarter. Industrials delivered the best performance with a return of 3.7%, while financials returned 1.3% and resources -5.7%. Resource stocks have been poor performers in response to disappointing global economic growth, and we used this opportunity to add to the diversified miners, specifically our holding in Anglo American. Despite the relative underperformance, we remain underweight resources given our view that the upside to long-term valuations, based on mid-cycle earnings, is not attractive enough to justify a higher exposure. Our preferred resource exposure remains Sasol which offers good value at 8 times our assessment of normal earnings. We remain underweight gold and platinum producers given our concerns over declining grades and significant cost pressures (labour, electricity and water) faced by these businesses. Banks returned -0.9% for the quarter, underperforming other financials. We remain overweight banks given attractive valuations at 9 times our assessment of normal earnings and price-to-book ratios of 1.7 times. We do not hold any of the insurers, with the exception of MMI Holdings. The long-term insurance industry faces numerous regulatory headwinds, making it easier for policyholders to terminate their life insurance policies and for new product pricing to become more competitive. This is likely to place pressure on margins. In spite of this, MMI Holdings represents an attractive investment. The merger between Metropolitan and Momentum should allow management to extract meaningful synergies and reduce costs by means of combining the two asset management and health operations. MMI also sits on a significant amount of excess capital that could be returned to shareholders by way of increased dividends or share buybacks. It trades on 8.5 times our assessment of normal earnings and offers an attractive one-year forward dividend yield of 6.8%. Economic data in South Africa remains mixed - CPI data for May came in ahead of consensus at 4.6%, while PPI came in slightly below expectations. We remain bearish on the inflation outlook and expect CPI to breach the upper end of the South African Reserve Bank's 3% to 6% target band either later this year or early in 2012. This view is framed by rising food prices (notwithstanding rand strength), high wage settlements and continued pressure on administered prices all against the backdrop of an accommodative monetary policy. We continue to believe the local currency is overvalued and have approximately 59% of the fund invested in rand hedges such as MTN, SABMiller, Naspers and Bidvest.

SABMiller is one of the biggest positions in the fund. The share price recently came under pressure when the proposed bid for Fosters in Australia was announced. Corporate transactions often capture the headlines and can result in volatile share price reaction as arbitrageurs take positions and incumbent investors struggle to digest the new information. Such events can of course present opportunities for those with a long-term inclination. In this case, consensus opinion quickly decided that the company was overpaying, resulting in a sell-off of the stock. We too did our calculations and consider it a fair risk that some value might be destroyed by the proposed transaction. Management clearly believe differently and our work suggests a possibility that their positive scenario may unfold. This has left us with a situation where the share price discounted bad news as a certainty, while leaving some chance, even a reasonable one, that the transaction might actually create value. As a result, we added to our holding. Within industrials, we believe it will be a challenge for the average domestic company to defend its real earnings, a task made more difficult when interest rates are hiked from their three-decade low levels. Consequently, we own very little retailers (other than Woolworths and Mr Price) and remain defensively positioned with holdings in the Spar Group and AVI. As highlighted in previous commentary, we continue to find value in selected small caps with approximately a third of the fund invested in shares outside the ALSI40. The fund currently offers 38% upside to our assessment of fair value for the underlying counters. In conclusion, investor behaviour is likely to oscillate between high and low levels of risk appetite depending on the economic data of the day. In an environment fraught with uncertainty, assets are often mispriced which benefits the valuation-driven, patient investor. We seek to capitalise on these opportunities by setting emotion aside and investing for the long-term.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund outperformed its benchmark by 4.5% p.a. over a rolling 3-year period (11.9% versus 7.4% p.a.) and by 1.1% p.a. over a rolling 5-year period (13.4% versus 12.3% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

The first quarter of 2011 proved to be quite an eventful one. News headlines were dominated by the political unrest in North Africa and the Middle East. The oil price moved sharply higher in February as the unrest reached Libya and raised concerns that it could spread to other oil producers such as Saudi Arabia. This coupled with rising global food prices, fuelled concerns over inflation which threatens to slow down the global economic recovery. To add to this uncertainty, global markets were also impacted by renewed sovereign debt concerns in the Eurozone as well as the devastating earthquake and risk of a possible nuclear meltdown in Japan. This initially saw risk assets sell-off as risk appetite waned before recovering towards the end of the quarter.

These events are likely to see the US Federal Reserve keep interest rates lower for longer. The combination of accommodative global monetary and fiscal policy together with rising food and oil prices is likely to lead to higher inflation. In this scenario, equities remain our preferred asset class for producing inflation-beating returns. We continue to find more value in global equities and are close to the maximum offshore limit.

The FTSE/JSE All Share Index returned 1.1% for the quarter, masking significant intra-quarter volatility. Resources continue to lead the market higher returning 2.8%, while industrials returned -0.3% and financials 0.7%. We remain underweight resources with the view that the upside to longterm valuations, based on mid-cycle earnings, is not attractive enough to justify a higher weighting. Our preferred resource exposure remains Sasol given its long-life assets, low cost base and attractive valuation at 10 times our assessment of normal earnings. We remain underweight gold and platinum producers given our concerns over declining grades and significant cost pressures faced by these businesses. During the quarter we added to our holding in Mondi Limited, an integrated global paper and packaging company with operations based primarily in Europe and Africa. Mondi enjoys a leading market and cost position in many of the segments in which it operates. Earnings are currently depressed and should recover strongly with the global economy. Approximately 60% of revenue is exposed to faster growing emerging markets, and with its low-cost producer status has remained profitable when the majority of the industry was either loss-making or breaking even. Management are very return-focused and extremely shareholder-friendly. Mondi offers good value, trading at 9.6 times our assessment of normal earnings in euros.

Banks returned 1.1% for the quarter, marginally outperforming other financials. We remain overweight banks and have added to our position during the quarter. Valuations of the large commercial banks remain attractive at 10 times 1-year forward earnings and price-to-book ratios of 1.8 times.

We remain concerned over the strength of the rand and underlying inflationary pressures faced by the real economy (labour, electricity, property rates and taxes). These concerns were reinforced during the quarter by a disappointing Budget speech. Expected budget deficits for the upcoming fiscal years were revised higher, which means funding is likely to remain high when compared to prior years. While supply was relatively well-absorbed last year, this was on the back of strong foreign buying. It is doubtful whether this will continue into the future. The likely outcome is higher bond yields and a weaker currency. It is for this reason that approximately 59% of our client portfolios are invested in rand-hedge counters that are attractively valued and globally diversified.

Inflation remains a threat to the South African economy. We believe the market is underestimating the extent of food inflation and pass through into second round effects, especially in the current low interest rate environment and continued high wage settlements (without commensurate productivity gains). Given these pressures, we continue to favour defensive businesses that are undervalued and enjoy pricing power such as Naspers, SABMiller, Famous Brands, AVI and the Spar Group. We continue to find value in selected small caps with many trading at around 6 times our assessment of normal earnings. Approximately a third of our client portfolios are now invested in shares outside the FTSE/JSE ALSI40. The fund currently offers 36% upside to our assessment of fair value for the underlying counters.

In conclusion, markets remain challenging. In an environment fraught with uncertainty, we remain resolute to our proven investment philosophy of investing for the long-term. We believe this is the best way to add value for our clients.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund enjoyed a good quarter. It has outperformed its benchmark by 3.2% p.a. over a rolling 3-year period (10.3% versus 7.1% p.a.) and by 0.9% p.a. over a rolling 5-year period (16.0% versus 15.1% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

World equity markets rallied towards the end of the year with many US and European stocks trading close to their best levels prior to the collapse of Lehman Brothers in September 2008. Notwithstanding this rally, the global economic recovery remains fragile as reflected by weak housing data and high unemployment in the US and sovereign debt concerns in Europe. This has prompted the US Federal Reserve to announce a second round of quantitative easing by which, the central bank will inject $600 billion into financial markets through the purchase of US treasuries.

The sheer quantum of the monetary and fiscal stimulus employed to support growth has moved the world economy into uncharted territory. We are possibly living through the greatest financial experiment the world has known: if the stimulus is withdrawn prematurely, the world economy risks slipping back into recession and if it is in place for too long, the effect will be higher inflation which will compromise future economic growth. This uncertainty has caused investor behaviour to oscillate between high and low levels of risk appetite as capital scours the globe in search for yield. This has driven the prices of emerging market equities higher, bond yields lower and their currencies stronger.

The All Share Index is now only 1.8% off the May 2008 peak. Although equities remain our preferred asset class for delivering inflation-beating returns, we continue to take profits to maintain what we consider a neutral equity exposure. The past decade has been exceptional for South African investors. Local equities have significantly outperformed global equities with a rand return of 17.8% p.a. over the 10-year period, while developed market equities were flat. We believe that the story will be different over the next 10-year period. Regulation 28 of the Pension Funds Act has recently been amended to align it with revisions to the Exchange Control Act. In terms of the revision, the maximum limit a fund may invest offshore has been raised from 20% to 25%. It is our view that global equities offer more value than local equities and we have taken advantage of this opportunity across our client portfolios and are close to the revised maximum limit.

The All Share Index returned 9.5% for the quarter. Resources led the market higher returning 16.5%, while industrials returned 7.8% and financials -0.1%. Despite the recent bounce, resources have only returned 2.9% over three years. We remain underweight resources although valuations have become more reasonable during the second half of the year based on our assessment of mid-cycle earnings. Our preferred resource exposure remains Sasol given its long-life assets, low cost base and attractive valuation at 9 times our assessment of normal earnings. Post the sell-off of diversified miners in the third quarter of the year, we aggressively bought Anglo American. It has long-life, high quality assets and management have embarked on a significant costcutting initiative which will be supportive of future earnings growth. It trades on 13.5 times our assessment of normal earnings including production growth, and now comprises 8.5% of the fund. We remain underweight gold and platinum producers. Although these companies would benefit were the rand to weaken, they do not offer a sufficient margin of safety to justify a significant holding. Banks were flat for the three-month period, marginally outperforming financials. We remain overweight banks and have added to our position during the quarter based on our view that valuations of the large, commercial banks are attractive at 10 times 1-year forward earnings and price-to-book ratios of 1.8 times.

The South African rand, like many other emerging market currencies, continues to strengthen on the back of significant capital inflows and currently trades at R6.60 to the dollar. It remains our view that the rand is overvalued and will have to weaken - the country is uncompetitive and is being de-industrialised at current levels. It is for this reason that approximately 58% of the fund is invested in rand-hedge counters that are attractively valued and globally diversified. One such example is SABMiller. It is the second largest global brewer and has a robust, balanced business portfolio that is diversified across geographies and currencies. It offers investors one of the highest exposures to fast-growing, emerging markets in the global consumer staples universe, operating in markets such as Latin America, Asia and Africa. It has a proven track record of brand building, cost excellence and earnings delivery. SABMiller is one of the highest quality investments available to the South African investor and offers good value at 13.6 times our assessment of normal earnings and we have added to our holding during the quarter.

We sold the bulk of our retail exposure by the end of the year with the exception of Spar, Woolworths and Mr Price. These businesses have been exceptional performers since the end of the interest rate hike cycle in June 2008 and no longer offer compelling value based on our assessment of mid-cycle earnings. We continue to find value in selected small caps with many trading at around 6 times our assessment of normalised earnings. Approximately a third of our portfolios are now invested in shares outside the ALSI40. The fund currently offers 33% upside to our assessment of fair value for the underlying counters.

In conclusion, markets are likely to remain volatile and testing for the foreseeable future. While we have no special insights into the future, our proven philosophy of investing for the long term will ensure that the fund is positioned to handle the curve balls the market will inevitably throw our way.

Portfolio managers Karl Leinberger and Quinton Ivan