After surprising the market with a 50 basis points (bps) rate cut in August, the South African Reserve Bank (SARB) erred on the side of caution at their September MPC meeting and made a unanimous decision to leave the repo rate unchanged at 7%.

Global bonds have rallied after the sharp sell-off in Q2 2009, together with stronger equity markets. Inflation risks continue to remain low in the medium term and it is unlikely that there will be any pressure for Central Banks to hike rates. It is more likely that we will see a delay in rate hikes as decision makers will be reluctant to hike prematurely and curtail the potentialrecovery in growth. Local bond yields rallied across the yield curve during the quarter, but ended above the lows after the surprise cut in the repo rate at the August meeting. The benchmark R157 was 18 bps lower at 8.29%. The ALBI performance for the quarter ended September was 2.96%. The 7 -12 year area was the best performing sector for the quarter delivering 3.14%. The ALBI outperformed cash by 1.38%.

With the MPC stating that risks to the inflation outlook appear to be fairly evenly balanced, the market has taken this to read that there are unlikely to be further rates cuts. Although the current level of inflation is still above the upper target level, the MPC expects this to fall below the upper limit in Q2 2010 and remain within the target range for the rest of the forecast period ending 2011.

During the quarter, the 7 -12 year sector of the index performed best with a return of 3.14%. The rand traded stronger during the course of the quarter and ended up 2.6% against the US dollar and 2.5% stronger on a trade-weighted basis. South Africa’s country risk premium, the yield spread of South Africa’s dollar-denominated bonds over US treasuries, narrowed by 69 bps to 2.45% for the quarter ended September. Global bond yields were firmer in the US, Euro and the UK over the quarter. The US 10-year yield fell 23 bps to 3.31%, Euro area bonds fell 21 bps to 3.20%, and UK bonds fell 13 bps to 3.58%

The FTSE/JSE SA Listed Property Index gained 2.05% in September, while the Real Estate Index was down -2.09%, pulled down primarily by Liberty International. Over the past year, the FTSE/JSE SA Listed Property Index is up 18.9%, but the Real Estate Index has dropped by -10.04%, which illustrates the volatility within the respective indices.

The trading environment for property companies remains difficult with retail property affected by the drop-off in consumer spending and economic growth. The increase in vacancies remains a concern, resulting in new rental negotiation not delivering the upside as expected earlier. Across the market, bad debts are on the increase, and tenant replacement has become tough. However, we are starting to see an uptick in confidence levels, but banks are still not offering attractive lending rates and new activity in the sector has largely been placed on hold. Property earnings thus remain at risk.

The offshore exposure in the portfolio has been managed actively. Exposure was lowered from above 17% to around 8% in October 2008. This was taken back up above 10% in November 2008 as high-yielding investments were found and the rand moved below R10/US$. Since then, the allocation was moved below 10% and back up to 13% as exchange rate volatility continued. The present currency mix will be maintained, with exposure toeuro, Australian dollar and sterling as we expect the US dollar to depreciate further over time, due to structural biases in the US economy.
Although the implied inflation has improved steadily from the levels seen in December last year, with the increased supply of bonds, there are still risks to the upside.

The lower growth data has confirmed our concerns that funding pressures from government have increased and together with the funding requirement of State-Owned Enterprises, this should result in further upward pressure in bond yields. As long as this remains the case, there remains an upside risk to bond yields.

The fund structure remains short, mainly invested in money market floating rate notes, inflation-linked bonds and short-dated bond credit, while maintaining our zero long government bond position. Continued funding pressures should place upward pressure on yields. We have increased credit exposure selectively where higher yields could be locked-in. We have also increased the inflation-linked exposure in the portfolio.

Although property shares strengthened over the quarter, given that the environment remains difficult due to the rise in building and funding costs, we continue to hold zero property exposure. We will continue to monitor the asset class for opportunities in stocks with attractive yields.

The South African Reserve Bank (SARB) surprised the market and analysts alike when they kept rates on hold at the June MPC meeting, despite the market pricing in a further 70 basis points (bps) worth of rate cuts for 2009. At its previous meeting, the SARB indicated that the upside stickiness of the short-term inflation outlook could see a possible halt in the interest rate cutting cycle.

At the end of June, the market was pricing in flat rates for the next year and 30 bps worth of rate hikes in a year's time. Given the current market outlook, we are not seeing value in the longer end of the curve and will continue to remain short at these levels. Credit exposure remains conservative in selected issues where higher yield could be locked-in.

The 3-month JIBAR ticked up 40 bps from 7.18% to 7.58% as the repo rate was kept on hold in June. The FRA's have shifted up from a month ago when the market was still pricing in rate cuts. The market is currently pricing in flat rates going forward, with rates starting to tick up in about a year's time.

Local bond yields were also weaker over the quarter with the benchmark R157 30 bps higher at 8.47%. The ALBI performance for June was -0.23% and the quarterly return was +0.29%. The 1-3 year index was the best performing sector for the quarter delivering 1.39% as longer bond yields rose ignoring the stronger currency. The ALBI underperformed cash by 1.58%.

Although the market was surprised by the MPC not easing again at the June meeting, the SARB had indicated at the previous meeting that further rate easing was unlikely because of the stubbornly high inflation. Prior to the June meeting the market was pricing in 70 bps of rate cuts. This has now changed to a flat outlook for the rest of the year. While we have seen a strong move in the currency the increased funding pressure from both government and State-Owned Enterprises has prevented any meaningful rally in bond yields.

During the month, the funding stocks bore the brunt of the weakness, with the 7-12 year sector returning -0.08% for the quarter ended June. The rand strengthened for the quarter by 19.4% to the US dollar. On a trade-weighted basis, the rand strengthened 17.5%. South Africa's country risk premium, the yield spread of South Africa's dollar-denominated bonds over US treasuries, narrowed by 137 bps to 3.14%. Global bond yields ended the quarter weaker after recovering from an aggressive sell-off in June. The US 10-year yield rose 85 bps to 3.54%, euro-area bonds rose 42 bps to 3.41%, while UK bonds rose 58 bps to 3.71%.

The offshore exposure in the portfolio has been actively managed. Exposure was lowered from above 17% to around 8% in October 2008 and was taken back up above 10% in November as high yielding investments were found and the rand moved below R10/US$. Since then, the allocation was moved below 10% and back up to 15% as exchange rate volatility continued. The present currency mix will be maintained, with exposure to euro, Australian dollar and sterling as we expect the US dollar to depreciate further over time, due to structural biases in the US economy.

SA bonds are still discounting low domestic inflation across the curve. Although this has improved from the levels seen in December last year, we still don't see value at these levels.

The lower growth data has confirmed our concerns that funding pressures from government have increased and together with the funding requirement of State-Owned Enterprises, this should result in upward pressure in bond yields. Although we have seen the yields rise in the longer end of the curve, we still see increase supply pressures continuing and would expect further normalisation of the curve. As long as this remains the case, there remains an upside risk to bond yields.

The fund structure remains short, mainly invested in money market floating rate notes. With the MPC keeping rates on hold and the existing funding pressures pushing yields higher, we have increased credit exposure selectively where higher yields could be locked in. We have also increased the inflation-linked exposure in the portfolio.

Property shares weakened in June as the rand continued to strengthen and the SARB surprisingly keeping interest rates on hold. Given that the environment remains difficult due to the rise in building and funding costs, we continue to hold zeroproperty exposure. We will continue to monitor the asset class for opportunities in stocks with attractive yields.

The international allocation will be managed both up and down as the valuation of the rand changes. We have focused on lifting yield via selected high yielding euro and US dollar-denominated instruments, some of which are from South African issuers.

Amid a deteriorating domestic and global macro environment, the South African Reserve Bank (SARB) increased the frequency of meetings to monthly meetings, thus giving the SARB scope to step up the pace of monetary policy easing. The SARB met in March and cut rates by an additional 100 basis points (bps) reducing the repo rate to 9.5%. The SARB's inflation outlook is broadly unchanged from the February meeting. They expect inflation to fall towards the mid-point of the target band in Q3 2009, before exceeding 6.0% in Q1 2010, and average 5.5% thereafter.

After selling off sharply in the first two months of the year, US Bonds rallied 50 bps on the announcement that the US Treasury intended supporting the market by buying back debt. This spurred a rally in equity markets which fed through to emerging markets as the appetite for risk returned.

Local bond yields were marginally weaker after a fairly volatile month that saw the yield trade in a range of 50 bps. The benchmark R157 was up 10 bps to end the month at 8.17%. The ALBI performance for March was 0.04%, with longer dated bonds underperforming as long bond yields rose marginally faster than their medium-term counterparts. This resulted in the ALBI underperforming cash by 0.75%.

The short-term outlook for inflation remains mixed after both January and February inflation data came out higher than expected. There is also the uncertainty regarding the increase in the Eskom tariff that needs to be resolved. However, the Reserve Bank has indicated that although there could be some short term issues they are expecting the medium-term picture to improve paving the way for further interest rate relief. The market has already priced in 260 bps of rate cuts in the short end and long bonds seem to have discounted all the positive news. The expected slowdown in local growth has reflected immediately in the budget financing requirement, which has increased substantially. This has resulted in the yield curve normalising as funding pressures have increased from both government and state-owned enterprises.

During the month, the yield curve normalised with longer-dated yields rising slightly faster than the medium-term yields, while short-dated bonds were more or less unchanged. The short end performed positively, rising 0.64%, whereas the 12+ year sector was down -0.50%. The rand strengthened for the month by 4.9% to the US dollar, despite the volatility during the month. On a trade-weighted basis, the rand strengthened 1%. Global bond yields rallied across the board. The US 10- year yield fell 34 bps to 2.69%, Euro area bonds fell 13 bps to 2.99%, while UK bonds declined 48 bps to 3.13%.

The reduction in the interest rate in March by the MPC of the South African Reserve Bank has seen awareness and interest trickle back into the property sector. The market gained +2.6% in March as measured by the FTSE/JSE SA Listed Property Index, a relatively modest gain when compared to the FTSE/JSE All Share, which rose +11.0%. However, yearto- date the index has lost -1.4% compared the total market, which is down -4.2%. The trading environment for property companies remains difficult with retail property affected by the drop-off in consumer spending and economic growth. Property shares gained in March, however, given that the environment remains difficult due to the rise in building and funding costs, we continue to hold zero property exposure. We will continue to monitor the asset class for opportunities in stocks with attractive yields.

The offshore exposure in the portfolio was lowered from above 17% to around 8% in October 2008 as the rand depreciated aggressively. This was taken back up above 10% in November as high yielding investments were found and the rand moved below R10/US$. The present currency mix will be maintained, with exposure to euro, Australian dollar and sterling as we expect the US dollar to depreciate further over time, due to structural biases in the US economy.

Relative to US bonds, SA bonds are still discounting very low domestic inflation across the curve. Although this has improved from the levels seen in December last year, we still don't see value at these levels. With prospects of lower growth, funding pressures from government have increased and together with the funding requirement of state-owned enterprises, this should result in upward pressure in bond yields. Although we have seen the yields rise in the longer end of the curve, we still see increase supply pressures continuing and would expect further normalisation of the curve. As long as this remains the case, there is a upside risk to bond yields.

The fund structure remains short, mainly invested in money market floating rate notes. With the market already pricing in rate cuts of more than 260 bps we see no value in fixed rate assets. With little value along the curve, we will continue to focus on enhancing yield at the short end. To enhance yield, we have increased credit selectively where higher yields could be locked-in. Where instruments are longer dated, we have swapped the interest rate risk back to floating.

The international allocation will be managed both up and down as the valuation of the rand changes. We have focused on lifting yield via selected high yielding euro and US dollar-denominated instruments, some of which are from South African issuers.

Amid the global financial crisis where rates have been cut aggressively across the globe, the South African Reserve Bank (SARB) cut rates by 50 basis points (bp) to 11.5% at the December Monetary Policy Committee (MPC) meeting. The SARB now expects inflation to average 6.2% in 2009 and to average 5.6% in 2010. The SARB cited an improved inflation outlook based on oil prices falling substantially, international food prices peaking and a benign local economy.

The Brent Crude oil price declined from the $50 a barrel mark in November, down to approximately $37 a barrel. The rand appreciated from R/$10.05 to R/$9.52, and in conjunction with the fall in the oil price, this will culminate in the '95 unleaded fuel pump price being reduced by over R1.30 in January. This has eased the upward pressure on inflation and at the end of December, the market was pricing in over 400 bp worth of interest rate cuts for 2009. This may be too aggressive as the import and wage components of inflation remains relatively high.

Given the current market outlook with aggressive rate cuts already priced in, we are not seeing any value in the longer end of the curve and will continue to remain short at these levels. Credit exposure remains conservative in selected issues where higher yield could be locked-in. The 3-month JIBAR fell over the month from 12.06% to 11.43% in response to the interest rate cut. The longer end of the curve outperformed the shorter end as rates fell over the month.

As the quantitative easing of policy rates continues, Central Banks across the world have been aggressively cutting interest rates in a coordinated attempt to avoid a deep recession. The Fed and European Central banks cut rates by 75 bp in December, while the UK eased rates by 100 bp. Local bonds rallied strongly in line with global yields with the benchmark R157 down 107 bp to end the month at 8,21%. The ALBI performance for December was 6,9%, with longer dated bonds outperforming as bond yields fell across the curve. This resulted in the ALBI outperforming cash by a massive 602 bp.

Although yields have fallen globally, credit spreads remain wide as investors' appetite for risk remains depressed. Local inflation appears to have peaked and the main drivers, food and oil prices, seem to confirm this. It will create scope for future interest rate easing, albeit at a more conservative rate to that the market has already discounted. The market is still pricing in over 400 bp of rate cuts over the next 12 months after the first cut of 50 bp in December.

Relative to US bonds, SA bonds are still discounting negative domestic inflation across the curve. Dollar and euro denominated RSA bonds continue to trade above the local rand-denominated bonds, which reflects the expensive nature of the local bond yields. While the inflation outlook for 2009 is somewhat improved due to falling oil and commodity prices, the uncertainty regarding the level of the rand and a further hike in electricity tariffs, poses a threat. With local bond yields having fallen in a very thin and illiquid market, coupled with the limited supply in December, the breakeven yield to inflation-linked bonds has fallen to 4% from 8.5% at end of June 2008. We, therefore, see better value in inflation-linked bonds relative to the long vanilla bonds. As long as this remains the case, there is an upside risk to bond yields.

Although the rand has been strong to the USD in December, the USD sold off sharply against the euro. On a tradeweighted basis the rand was unchanged, having weakened to the euro but gained against a weak sterling. The rand's global status as an emerging market commodity currency makes it particularly susceptible to depreciation during periods of heightened risk aversion. A high current account deficit and the reversal of portfolio flows remain a concern.

The rand gained 3,8% versus the USD for the month. Although we have depreciated by 3% to the euro, the local currency has picked up against a weak sterling, appreciating by 11% for the month.

The fund structure remains short, mainly invested in money market floating rate notes. With the market already pricing in rate cuts of over 400 bp we see no value in fixed rate assets. With little value along the curve, we will continue to focus on enhancing yield at the short end.