Money market and bond yields continued to fall over the quarter, spurred on by more aggressive reporate easing than the market had initially anticipated. At the June Monetary Policy Committee (MPC) meeting it was announced that subsequent meetings would move from quarterly to every two months, which would provide more scope to influence underlying interest rates and to better guide inflation into the Reserve Bank's 3% -6% target range.

The quarter saw two repo rate cuts: 1% in August and 1% in September, taking the repo rate to 10%. The September cut was as a result of a "special" MPC meeting which took the market by surprise and appeared to be in reaction to new information at the Reserve Bank. However, the question remains: what new data would justify such a move? As no information was revealed in the post-meeting statement to the public, this urgent action remains unclear. The 3.5% repo rate cut seen over the last four months can be interpreted as aggressive, and the persistently strong rand clearly supports such continued easing.

Although domestic economic fundamentals should remain supportive of the bond market at current levels for the remainder of the year, yields have in all likelihood priced in most of the good news. The risks are increasing for a sharp sell off at these historically low yields, especially as the international debt market remains vulnerable. With the R153, the 10-year benchmark bond, at 9%, the bottom of the bull-run is in sight. The fund manager's expect a moderate rise in bond yields over 2004 as CPIX passes its cyclical low and the international environment shows a greater recovery.

During the quarter, the bond market provided reasonably healthy returns, with the All Bond index returning 2.68%. The bulk of performance came from the two ends of the yield curve, the 0 -3 and 12+ year sectors.

The focus of the Coronation Income Fund is on achieving high yield and capital gains. At times where bonds look to have run their course for the short-term, the fund manager's increase the funds exposure to short-dated bonds or cash with a high running yield and seek to protect capital gains achieved thus far, however, keeping in mind that having too high a bond holding could prove to be detrimental should there be a sharp sell-off. In line with this thinking, towards the end of the quarter, the fund manager's reduced the funds duration to 1.4 years, lower than that of the fund's benchmark. The fund manager's were of the opinion that the risk of a sharp sell-off in bonds was increasing and could lead to the fund manager's not "getting out in time" and thereby suffering capital losses as a result. Hence, for the month of September, The fund underperformed the 1 -3 year index due to the lower fund duration and a lower exposure to bonds despite their good month.

The fund returned 2.76% for the quarter, outperforming most of its competitors, and taking the return for the 12 months to end September to 16.4%. The fund maintains a conservative bias and duration shorter than that of its benchmark.

The fixed interest market rallied strongly during the quarter in response to a greater probability of interest rates becoming much lower going forward. This was fuelled by the revision by Stats SA of the consumer inflation figures from January 2002 due to a data error created by the rental component of housing within the inflation basket. This resulted in CPIX being 1.9% lower than was previously reported.

Bonds performed well, with the All Bond index returning 6.74%. Income funds by their nature are low risk, but do hold selected bonds in line with a total return strategy of high yield with some capital gain. As a result, the Coronation Income Fund was positioned for such a rally and has performed well, particularly in the latter part of the quarter.

In line with the conservative approach of the fund, the fund manager's believe that selling into strength is never a bad idea and have accordingly begun to lighten the funds bond holding.

The bonds held in the fund are made up of a basket of RSA, corporate and high yielding bank bonds, selected for their running yield and shorter duration. In this way, the fund can produce a competitive yield and still be exposed to potential capital gains.

The funds investment strategy is based on reducing risk over time but maintaining some exposure to the bond market as the fund manager's believe that this asset class may still perform over the next few months.

The fund continued to benefit from the sustained downward movement in yields over the past quarter. However, given that the majority of this downward move was realised during the first two to three weeks of January, the focus for the remainder of the quarter shifted squarely upon income levels rather than prospective gains. In this respect, the relatively high exposure on a floating rate basis to 3-month yields has added significantly to performance from an income distribution perspective.

The fund manager's believe that the SARB will continue to follow a relatively conservative path with regard to monetary policy, and hence short-term rates will continue to remain high relative to long-term rates. For this reason, on a risk-adjusted basis, the Income Fund remains a particularly attractive destination for investors wishing to remain exposed to interest-bearing assets. No significant changes to overall strategy are envisaged at this point. The fund will continue to benefit from its current structure.

Due to its structure and positions in short term bonds, the Income fund benefited from the downward movement in yields during the quarter. Moderate capital gains and higher levels of income from floating rate securities contributed to overall performance.

Due to the prevailing optimism in the bond market, yields are now substantially lower than early 2002. The potential for further capital gains will therefore be relatively restricted.

Nonetheless, the fund is well positioned to continue to produce relatively high levels of income. No change in overall strategy is contemplated at this point.