The Nedgroup Investment Rainmaker Fund battled in a very weak equity market in September 2008, which brought an end to an underperforming third quarter of 2008. The fund had performed very well until mid-July given its relatively high weighting in resources, particularly Sasol, and also as a result of its relatively low weighting in banks and credit retail.

Subsequently, we maintained our exposure to rand hedges, but in the conditions of extreme underperformance of offshore economies, stock markets and commodities, even Remgro and Richemont, underperformed SA domestic shares. Moreover, after the market had fallen by 20%, we significantly reduced our cash holdings and were fully invested in a market that continued to decline.

At the time of writing, the All Share Index had declined by some 36% since its May top and on a 10.5% earnings yield now appears to offer good value, even when compared to the high prime interest rate of 15.5%. However the earnings outlook has deteriorated significantly. Using spot prices and allowing for a considerable decline in 2009 earnings, our models indicate that Billiton's forward price to earnings ratio remains lower than at any time during the last 10 years. We believe it is probable that further weakness incommodities will be matched by real rand depreciation and not the muted decline we have seen so far. (Note that the rand has strengthened by 18% to the Aussie dollar since the latter's peak at the end of June.) We believe the problems of our domestic current account deficit have not gone away and may actually have deteriorated with the decline we have seen in commodity prices.

We are concerned that a continuation of the current downward trend in commodity prices could be detrimental to earnings and consequently, we favour low cost producers. Our exposure to Anglo American and platinum shares remains limited. However, Sasol (R255 per share) appears to be discounting an oil price of US$50 a barrel and even at this level the company would be very profitable and not expensive based on historic comparisons.

We like Remgro and Richemont for their discounts to NAV, the defensive tobacco exposure to BAT, which will be unbundled later this month and the luxury goods business which has declined by more than 60% in value in the last three months and offers "once in a lifetime" value.

We remain committed to companies involved in the fixed investment spending program and believe Eskom and Transnet spend will underpin other state infrastructure expenditure as well as some (although undoubtedly reduced) private sector spending. Although they have also been punished indiscriminately, we retain our preference for Altron and Reunert.

Our consumer exposure remains defensive via food retailers Shoprite and Spar, and we believe that for the time being the recent rerating of the credit-oriented stocks is over.

The fund is fully invested to achieve maximum benefit in an anticipated recovery in equity market values from very suppressed levels.

The Nedgroup Investments Rainmaker Fund rose by 2.2% over the quarter, but declined during June. In both periods this was in line with the result achieved by the All Share Index, but well ahead of the benchmark, which is the average of the unit trust general equity sector.

Performance was driven in the main by our stated intention to protect the fund from rising oil prices, food inflation, a weakening rand and the general risk of "market fall-out" given that the average earnings yield had descended to unattractively low levels, especially when compared with interest rates. As a result, the fund benefited from its large positions in oil stocks (Billiton and Sasol - up 24% and 18.8% for the quarter respectively), industrial rand hedges (Richemont and Remgro), food retailers (Shoprite) and a relatively high cash component. Financials (down14.5% for the quarter) and general retailers (down 14.5% for the quarter) were areas where the fund had relatively low exposure.

The most significant changes to the fund over the quarter included the reduction of holdings in Billiton and Remgro into relative strength (both from 11% to 7.5% of the fund). The cash raised was partly used to increase the investment in MTN, from 0.8% to 2.8% of the fund.

The outlook for domestic financial and industrial shares continues to be impacted negatively by rising oil prices and interest rates, and notwithstanding their poor showing, it is in this area that we have raised cash recently. The announcement of a record R195bn current account deficit at the end of March suggests that the period of relative rand strength could be short lived and we maintain a high exposure to rand hedges for this reason.

The All Share Index declined by 3% in March, but rose by 2.9% for the quarter to end March 2008. Basic Materials (+17.8%) and Oil & Ga (+14.6%) were the only industry sectors to post positive returns for the quarter. Healthcare (-19.7%) and Consumer Services (-14.8%) were the worst performing sectors. Financials were also disappointing and declined by 13.3%. The fund was negatively impacted by its underweight position in resources and the fund declined by 1.2% in March and by a similar percentage for the quarter as a whole.

The quarter was characterised by extreme volatility, with the JSE declining by 13% during January in response to global sub-prime concerns. Pessimism reached extreme levels and investors began to fear that even strong growing Asian economies, and hence commodities, would be dragged down by the slump in western markets. However, the "de-coupling" theory prevailed and for the remainder of the quarter, strong Asian demand, production shortages and a weak US dollar led to ongoing gains in commodity prices. The performance of the Basic Materials (Resources) sector was enhanced by the Eskom debacle, with its negative impact on production and the rand.

The outlook for the JSE is fraught with concerns regarding the relatively high price earnings multiple, high inflation as a result of soaring commodity prices, limited GDP growth because of Eskom's troubles and potential rand weakness given the growth in the current account deficit.

Our investment response to those concerns is to protect investors by limiting our exposure to consumers and banks, while favouring rand hedges (Remgro), beneficiaries of higher oil and commodity prices (Sasol, Billiton, Anglos and Amplats) as well as food inflation beneficiaries (Shoprite and Spar).

The Nedgroup Investments Rainmaker Fund's unit price declined by 2.6% during December 2007, and by 1% for the quarter ended December 2007. For both periods the fund marginally outperformed the mean of the Domestic General Equity Unit Trust category. For the year as a whole the fund, was up 15.6%.

Our cautious stance on equity markets expressed in our previous quarterly report proved sensible, and at the time of writing, market conditions are deteriorating with the fear of a severe collapse in property markets exacerbated by rising energy costs.

In general, our defensive approach worked well with Remgro, SAB Miller, Astral Foods, Shoprite and Newgold doing well. Tiger Brands disappointed as a result of difficulties in its pharmaceutical business and anti-competitive behaviour in the milling and baking division, which happily is now history, having settled the matter with a fine of R100 million.

While we were correct in anticipating that rising interest rates and inflation would put a dampener on financial and consumer markets, we have been surprised by the resilience of the rand in the face of further increases in the trade deficit. This we attribute to the increase in domestic interest rates, in particular relative to rates which are much lower and declining in developed markets; and the health of the South African economy especially, once again relative to the forecast growth of the developed world economies.

Even the emergence of Jacob Zuma as the elected head of the ANC and apparent successor to Thabo Mbeki in 2009 has been absorbed with little impact on the currency. Whatever the reasons, the rand strength has caused many of our rand hedge selections to undermine the quarters result, with Anglo American, Billiton, Investec and Trencor all underperforming.

Looking forward, we believe equity markets are likely to remain difficult. We think it is probable that weakness in the US dollar and economy will not impact Asian economies too severely and thus commodity prices will remain resilient. Given our ongoing bearish view of the rand, we retain a significant exposure to rand hedges.