Market review
During the quarter, low interest rates and further quantitative easing continued to support financial assets. Low nominal cash yields have drawn investors into riskier asset classes. Emerging market equities, along with commodity prices and emerging market currencies, were the clear winners. The MSCI Emerging Markets Index rose 18.2% over the quarter while the MSCI World Index gained 13.9%.

Local economic activity moderated, with GDP expanding by 3.2% in the second quarter, down from 4.6% in the first quarter. Concerns about the global economic recovery and subdued demand locally, coupled with the favourable inflation outlook, motivated the South African Reserve Bank to further reduce the repo rate to 6%. The August inflation number of 3.5% was the lowest since mid-2005. The rand was one of the strongest emerging market currencies over the review period, gaining more than 10% against a weak US dollar. Bond yields fell sharply, boosted by foreign investor demand and continued downward pressure on inflation. The All Bond Index ended the quarter 8% higher, behind listed property (13.7%), but well ahead of cash which returned 1.7% over the period.

The FTSE/JSE All Share Index rose 13.3% over the quarter. The non-resources sector led the market higher, with a significant increase in mergers and acquisitions globally spilling over into the local market. Old Mutual confirmed that it was in discussions with HSBC on its stake in Nedbank. Nippon Telegraph proposed a cash buyout of Dimension Data and Wal-Mart made a cash offer for Massmart. Both the gold and platinum sectors ended down over the quarter, with platinum miners losing 2.3% while gold mining gave up 1%. Consumer services, which include the general retail sector, gained just shy of 25% over the same period. Food retailers, banks, life insurance and personal goods continued to perform well ahead of the broader market.

Portfolio review
Spurred on by the prospect of more quantitative easing, markets rallied strongly over the third quarter of 2010. Given our defensive positioning, the Investec Value Fund's returns lagged the returns of the FTSE/JSE All Share Index (ALSI) over the review period. Performance was negatively affected by the high cash weighting at the beginning of the quarter as well as the portfolio not holding positions in a number of higher beta stocks, which advanced strongly. MTN, Richemont, Naspers and Old Mutual all gained between 26% and 32% over the quarter. AVI was the only stock that the Value portfolio held that also had such a strong rally. The counter rose 26% over the review period.

While your portfolio underperforms in up markets and outperforms in down markets, we are adding value 'through the cycle'. This is shown by our performance over the last six months. The portfolio was well ahead of the ALSI over the second quarter (when the market fell 8.2%) and slightly lagged the ALSI over the third quarter (when the market advanced 13.3%). We have achieved this through actively trading into share price volatility. The net effect is that we end strong 'up' months with a high cash weighting and poor months with a low cash weighting.

Portfolio activity
After having a zero weighting in Anglo American, we initiated a position in Anglo, paying an average price of R273. Anglo has now underperformed the index two quarters in a row and is nearing its ten-year low relative to the market. Other purchases included buying back the African Bank shares we sold previously, adding to JD Group and initiating holdings in AngloGold and Implats. Sales included Tiger Brands, ArcelorMittal, Capital Shopping Centres, MTN and Mondi.

Portfolio positioning
In our opinion, the US Federal Reserve's zero interest rate policy is causing a number of misallocations of capital. The most important of these for South Africa is the meteoric rise in the prices of emerging market assets. Federal Reserve Chairman Ben Bernanke is in effect fuelling an emerging market bubble, with the combination of free money and the poor outlook for the US and other developed economies.

There are two factors that concern us about the current situation in emerging markets. Firstly, it is very clear that the outlook for emerging markets is much better than the prospect for developed markets. What perturbs us is that everyone agrees with this. In our experience this is a clear warning bell - if something happens unexpectedly, emerging markets are an exceptionally 'crowded trade'. Secondly, valuations are no longer that compelling - the smart money was buying emerging markets ten years ago at one third of the book value of developed world book value. The current relative price to book ratio is 1.2 times - an all-time high relative valuation.

The recent proposed acquisition of Massmart by Wal-Mart perhaps best illustrates the precariousness of the current position. Wal-Mart has watched Massmart's share price rise 20 times in US dollars over the last decade, while their share price moved sideways before putting in their bid. Ten years ago, emerging markets were considered unfashionable by many investors. Today, the combination of free money and the constant pressure to diversify away from the ex-growth US market has driven Wal-Mart to pay 25 times earnings for Massmart.

So what does all this mean for the positioning of the Value portfolio? Given the emerging market mania, we are avoiding stocks in the South African market which have been pushed up to expensive valuations by this flood of foreign money. Therefore, we hold zero positions in retailers, with the exception of the massive laggard JD Group and the big four banks. The portfolio only has small positions in SA industrial stocks. We are invested in lagging resource stocks (Sasol, Gold Fields, Sappi, ArcelorMittal and now Anglo) as well as selected non-resource rand hedges (Steinhoff and BAT/Reinet).

Market review
The second quarter of 2010 reminded investors and market commentators that excess global indebtedness, which had resulted in the global financial crises, was not likely to be resolved in a few short months or by some extraordinary policy miracle. The spotlight remained firmly focused on Europe, with certain countries in the region straining under the heavy burden of unsustainable funding requirements. Global share markets headed lower as uncertainty rose around the likelihood of a V-shaped economic recovery. The MSCI World Index dropped sharply, closing 12.5% down over the quarter, dragging this year's returns into negative territory (-9.6%). Emerging markets fared somewhat better, shedding 8.3% over the quarter and 6% year to date. The FTSE/JSE All Share Index lost 8.2%, dragging the year's returns 4.1% lower. The weaker rand detracted from US dollar returns. The local currency depreciated 4.9% over the quarter and 3.5% year to date against the dollar. The rand gained significantly against the euro, appreciating 12% over the first six months of 2010. Resources were worst hit over the quarter, with platinum and diversified miners off 11% and 18.2% respectively. The gold sector was the best performer over the quarter, rising 16.5%. Other defensive sectors also performed admirably: food and drug retailers ended 11.9% higher and fixed line telecommunications surged 10.5%. Industrials lost 7% with general retailers (4.1%) outperforming the local banking sector (-9.9%) by a wide margin. Bonds, cash and listed property provided positive returns over the quarter. Cash returned 1.7%, bonds 1.1% and listed property rose 0.6%. Year to date, listed property remains the best performing asset class (10.6%).

Portfolio review
Your portfolio's defensive positioning that has been in place since the fourth quarter of 2009, paid off over the last quarter. Investors began to realise that the transfer of much of the global debt from the private sector to the public sector was not going to solve the problem overnight. As a result, your portfolio performed relatively well over the second quarter of 2010, with returns coming in well ahead of the benchmark FTSE/JSE All Share Index (ALSI). Performance over the quarter was assisted by the portfolio's defensive positioning, principally its large cash position (12% at the beginning of the quarter and 10% at the end of the quarter) as well as its holdings in Gold Fields, Telkom and Vodacom which rose 13%, 11% and 8% respectively. More importantly than the winners in the portfolio, was the fact that we managed to avoid a number of the large market cap losers over the quarter, namely BHP Billiton (-20%), Naspers (-18%), Impala Platinum Holdings (-16%) and Anglo American (-16%).

Portfolio activity
Most of the repositioning of the portfolio happened between September 2009 and March 2010; consequently, we did not trade much over the last quarter. On the buy side, we increased our holdings in Sasol, Gold Fields and British American Tobacco/Reinet as well as introduced JD Group into the portfolio. Sales were limited to some opportunistic selling of MTN into strength as well as lightening our Tiger Brands and Absa positions.

Portfolio positioning
We have been defensively positioned since the fourth quarter of 2009, but only saw the benefit of this over the last quarter. It is interesting to note the ALSI's quarterly returns since the market bottomed in March 2009, i.e. 8.6%, 13.9%, 11.4%, 4.5% and -8.2%. A declining trend is clearly evident, with the last quarter's weak return resulting in the year-to-date number now being firmly in negative territory. Ironically most gains were made from March to September 2009 when market commentators generally believed it was too risky to buy equities. Since 1 January 2010 the returns on equities have been negative. During this period most commentators believed that the financial crises had been resolved sufficiently, presenting investors with a 'green light' to buy equities. Investors are usually rewarded with excess returns if they are prepared to take some risk; waiting for clarity often results in mediocre returns. The key question now is whether the second quarter's fall of more than 8% is sufficient to re-instate value in the SA equity market and prompt us to reduce our cash holdings and increase our exposure to cyclical shares? The answer to this is that we believe that we are now in 'no man's land', i.e. it is too early to buy and too late to sell. Valuations remain elevated (16 times earnings for the JSE and a similar level for the US market). Debt levels (both public and private) are globally at unprecedented levels. Sentiment has only recently been dented, i.e. technically the markets have only recently broken below key support levels). Bulls may argue that dividend yields are in many cases above government bond yields, but our view is that bond yields are artificially depressed by a 'flight to safety'. We are maintaining our defensive positioning, as we believe that the recent equity sell-off only reflects the market beginning to question the V-shaped recovery. If this recovery does not take place, there is further downside in equities. We therefore continue to hold 10% of the portfolio in cash, 17% in inexpensive rand hedge stocks (British American Tobacco, Reinet and Steinhoff) and 27% in resource shares which have lagged and are not heavily exposed to Chinese demand (Gold Fields, Sasol, Sappi and ArcelorMittal). Finally, 20% of the portfolio is in higher yielding defensive SA stocks (AVI, Tiger Brands, Vodacom, African Bank, Telkom and Reunert).

Market review
Greater risk appetite globally boosted the local equity market. The FTSE/JSE All Share Index (ALSI) provided solid gains in March (7.9%), pushing the quarter's return into positive territory (4.5%). Rand strength, on the back of over R14.5 billion in net equity and bond inflows over the quarter, contributed to the ALSI returning 1.5% in US dollar terms. Financials (9.9%) were well ahead of industrials (4.4%) and resources (2.1%) over the first three months of the year. However, intra-quarter sector rotation saw the All Share Resources Index adding more than 10% in March. Banks (12.2%) and general retailers (17.1%) strengthened over the quarter, on the back of a surprise cut in rates and strong interest from foreign buyers. Gold miners fared poorly during the three-month period, shedding 8.2%. The platinum sector (11.3%) and general miners (12.4%) enjoyed market-beating gains in March, but the platinum sector (2.1%) still trailed the ALSI over the quarter, while diversified miners performed in line with the general market.

Portfolio review
The Value portfolio's performance was slightly disappointing over the first quarter of 2010. The portfolio's returns were assisted by strong relative performances from African Bank (20% over the quarter) and AVI (16%). Our derivative position, which gave the portfolio exposure to the Naspers 'rump' i.e. the non-Tencent businesses in Naspers, also delivered a solid performance. These performances were not, however, sufficient to offset lacklustre returns from the previous quarter's two winners, namely Sappi (-9% over the quarter) and Steinhoff (-1%), In addition, the fund's underweight position in Richemont and Billiton also affected performance negatively.

Portfolio activity After lagging both the domestic market and their international counterparts over the second half of 2009, domestic bank stocks, boosted by the strong rand and falling bond yields, finally caught fire. Both Absa and Standard Bank rose 13% over the quarter. We used this strength to aggressively reduce our holdings - we sold out of Standard Bank entirely and sold about two thirds of our Absa holding. From the proceeds we continued buying lagging rand hedge stocks - Sasol, British American Tobacco and Gold Fields. In addition, we used the 30% decline in the ArcelorMittal share price, post the emergence of the dispute with Kumba Iron Ore, to introduce ArcelorMittal into the portfolio at a 3% weighting. As a result of the purchases exceeding the value of our sales, our large cash weighting declined by a few percent to 12%.

Portfolio positioning The absence of yield on risk-free assets continues to drive investors towards riskier assets. There is currently no yield on US dollar cash and even the yield on the rand is at an all time low. Risky assets (emerging market equities and debt, commodities and the rand being prime examples) continue to rise as this tide of money tries to find some yield. It is important at this juncture to consider the advice of one of the world's best known value investors, Jeremy Grantham, who says: "The real trap here, and a very old one at that, is to be seduced into buying equities because cash is so painful. Equity markets almost always peak when rates are low, so moving in desperation away from low rates into substantially overpriced equities always ends badly." We cannot agree more with this sentiment and as a result, our portfolio is now positioned away from assets which we believe are overpriced as a result of overly loose monetary policy. Commodities, particularly those exposed to China i.e. copper and iron ore, fit into this category as well as 'carry trade 'currencies like the rand and stocks such as Naspers which are heavily exposed to overpriced Chinese equities (Tencent in Naspers's case). We therefore prefer inexpensive rand hedge stocks and it is for this reason that our major exposure is to:
· Rand hedge industrials: Steinhoff, British American Tobacco and Liberty International ( 22% of the portfolio)
· Resource stocks that have lagged and are not exposed to 'China play' commodities: Sasol, Goldfields, Sappi and ArcelorMittal (24% of the portfolio)
· Defensive higher-yielding local stocks: AVI, Tiger Brands, African Bank, Vodacom and Reunert (20% of the portfolio)
The South African market is now within 10% of its all-time high. This is important for two reasons. Firstly, we cannot believe that the outlook today is similar to what it was two years ago. Is there really no long-term effect on growth flowing from the credit crises? Secondly, we are encouraged that our shorter-term performance numbers are 'middle of the pack' - usually at these high points in the market we are much further behind funds with racier portfolios!

Market review
Improved growth prospects and a higher risk appetite supported domestic equities. The All Share Index (ALSI) ended December on the year's high, returning 2.9% over the month and 11.4% over the quarter. Strong foreign investor interest to the tune of over R75 billion in net equity inflows boosted the market's rating and pushed the year's returns to 32.1%, erasing all of 2008's losses. Over the quarter, the basic materials (17%) and consumer goods (18.7%) sectors recorded similar returns, beating the ALSI. There was a large divergence in the sub-sector performances in the final quarter. The gold sector struggled (-1.2%), but platinum (17.7%) and general miners (23.1%) outperformed. In the consumer goods sector, SABMiller and Steinhoff stood out as strong performers. Food producers (8%), general retailers (3.3%), banks (7.2%) and the life assurance sector (9.7%) all posted positive returns over the quarter, albeit below the overall market. The construction and telecommunications sectors, down 8.2% and 3.2% respectively, continued their underperformance during the year.

Portfolio review
Your portfolio had a reasonable performance over the fourth quarter of 2009. Performance was assisted by strong returns from Steinhoff (34%) and Sappi (25%), but this was not sufficient to offset the more muted returns from our position in banks (7%) as well as the 34% return from the largest stock in the index (Anglo) which we have now sold out of entirely. The last quarter's underperformance resulted in your portfolio marginally underperforming the All Share Index for 2009. We are not unhappy with this situation, given that our value strategy usually underperforms in strong up markets.

Portfolio activity
Trade within your portfolio was lower than usual over the quarter, as we had already established a more defensive position by the end of September. As a result, trades were limited to selling Bidvest and reducing our overweight position in banks. The proceeds went to laggards in the resources sector (Gold Fields and initiating a position in one of the worst performers of last year, namely Sasol). We also increased our cash holdings and positions in defensive shares, Reinet and AVI.

Portfolio positioning
\2009 is a good example of the vagaries of the stock market and how sentiment can change over a very short space of time. At the beginning of 2009 the major question was whether the recession was going to be the same size as the Great Depression. Analysts were negative and any suggestion that this represented a buying opportunity was met with warnings about the risks involved. It is now just ten months later and after the South African market has advanced 60%, analysts are now mainly bullish and most players are now expecting good equity returns in 2010. The simple truth is that the time to buy was last March (when there was 'blood in the streets') and that after the exponential returns of the last ten months, future equity returns will be significantly lower. Today's bullish analysts did not have the conviction to buy stocks when they were patently undervalued, but would rather buy now when it appears that the risks are lower. The truth is that the risks of buying equities today are unfortunately much higher than they were in March. Equities were pricing in a global Armageddon in March, while a good economic outcome is needed to justify today's valuations. The current dividend yield of 2.2% on the All Share Index is more than 50% below the average 4.5% yield of the last 45 years. It is also interesting to note that the JSE is now only 12% below its all time high set in mid 2008 - is the world really that similar to that of 18 months ago? In line with our value philosophy, we have steadily reduced the beta within your portfolio since July 2009. We have switched cyclical stocks (Anglo, Impala Platinum, Barloworld, Richemont and Old Mutual) into more defensive shares (Reinet, Vodacom, AVI, Tiger Brands, Gold Fields, Sasol and Medi-Clinic) and we have also increased the cash balances within your portfolio. We believe that the market is being supported by the absence of yield, principally caused by zero interest rates on US dollars, and not by valuations. Any sign of rising US interest rates could cause this massive 'carry trade' to unwind. While the bulls will argue that there is maybe another 12 months to go of zero US interest rates, the absence of any value in the markets makes us hesitant to play this game of 'waiting for the music to stop'. We would prefer to watch from the sidelines rather than have to rush for the exit once the party stops. It should however be noted that we are usually early in both buying and selling, as the turning points of both June 2008 and March 2009 show. Your portfolio may underperform over the next few quarters as the market moves higher.