Market overview
Worries about the health of the financial system depressed equity markets throughout the quarter. Events unfolded rapidly through the period, starting with the bail-out of Fannie and Freddie and the spectacular collapse of Lehman Brothers, which was subsequently followed by the collapse (and rescue) of other financial institutions. Emerging markets, which had earlier ridden the commodities boom, suffered from a sharp fall in the price of oil and other commodities, amid concerns that higher prices coupled with slower economic growth would curb demand.

Fund review
The Fund underperformed its benchmark with one of the contributing factors being our overweight exposure to emerging markets. This was compounded by the funds growth tilt (Value -13% vs. Growth -17%), which also detracted from returns.

Looking forward
The continuing slowdown will probably weigh on equities. Consensus earnings expectations remain too high and there will need to be downward revisions. This could be particularly severe in the financial sector as the de-leveraging process leads to even more write-downs. The consumer sector will also be further affected in the US as fiscal stimulus fades and the housing sector remains depressed. A more positive impact can be expected from valuation and technical indicators - equities are certainly cheap according to many indicators, but the uncertainty of future earnings demands caution at this stage of the cycle.

In dollar terms global equities declined 8.2% in June as investors concerns over the continuing credit crunch & ongoing weakness in real estate prices were compounded by the realisation that accelerating inflation is likely to prevent any significant further monetary easing. Financial stocks remained the weakest performers, though joined this month by consumer cyclical shares such as retailers & autos. In rand terms the portfolio declined 3.5% during Q2, which was 1.7% ahead of benchmark. Absolute returns were negatively impacted by the currency rebounding 4.4% against the greenback following the massive sell off at the beginning of the year (it remains the worst performing primary currency in the world YTD - down 12.3%). Our overweight emerging market exposure (GEM -5.3% vs. Developed -4.3%) detracted from returns; however this was offset by our growth tilt (Value -5% vs. Growth +2%). The fund remains in the top quartile & ahead of benchmark over 1 & 3 years. We expect equities to remain under pressure as analysts will probably continue downgrading earnings aggressively. The market will only bottom when revisions moderate & our view is they are likely to accelerate to 1990/2001levels. Now is not the time to sell though as irrespective of risk episodes the general pattern is the same - by the time you enter panic the worst is over & the subsequent recovery in equities is substantial. There is also a good probability of a counter trend rally in the short term as the market is looking oversold, with most tactical indicators confirming this.

Q4 was characterised by increased volatility as a result of weak US housing data, poor credit markets & questions surrounding the health of consumer spending. Fortunately the 2.4% US$ decline of the MSCI was not enough to erase the gains made earlier in the year, resulting in global equities ending up 9.6% (the 5th consecutive annual gain)! The portfolio outperformed its benchmark during the period under review & can largely be attributed to our growth tilt (Value - 4.8% vs. Growth -0.2). It's now ahead of benchmark over 1, 3 & 5 years & is also top quartile over all the aforementioned periods! As we enter 2008 investor sentiment will be driven by uncertainty as to whether the US will go into a fully blown recession or a cyclical slowdown. Furthermore will the slowdown be localised or spread to the wider global economy. We are of the opinion the US will experience a significant slowdown, albeit a short one. While we acknowledge the emergence of Sovereign Wealth Funds, potential multiple expansion, attractive valuations & rising liquidity are all bullish scenario's for equities, the emergence of a recession undermines all the above. In this regard we believe the Fed is behind the curve. Its inversion last year is a warning of a potential recession, while the unemployment rate has risen 60 basis points from the cycle low (at no time in the last 70 years has the aforementioned not been followed by the economy slipping into recession). Earnings are being revised down & it's important to note multiple expansion requires lower inflation & stronger growth - not our base case. Equities have historically also only done well following a rate cut when the economy & earnings are better & we think neither will materialise. As such we have become more defensive.