Despite continued global uncertainty and negative domestic macro factors, the South African equity market continues to reach new highs. Year-to-date, foreign investors have remained net buyers of domestic equities, with a strong preference for defensive shares over cyclicals. The fund's defensive holdings in MMI, Naspers and MTN have all contributed to our performance this past quarter. For the 12 months to September, the fund delivered a pleasing 24.94% versus 23.36 from the benchmark ALSI 40 Index. Our long-term performance continued to be strong, with meaningful outperformance over three, five and ten years. Commodity shares have not performed well this year. A deepening recession in Europe, tepid US growth and a slowing Chinese economy has led to weakening commodity prices which has negatively impacted resources companies. The South African mining industry has also had to struggle with the effects of unplanned safety stoppages, above inflationary cost pressures as well as the more recent strike activity, which quickly permeated into most of the resources sectors. While all these issues will impact short-term earnings, on a long-term basis, at normalised commodity prices and production levels, we continue to find value in the resources sector. Over the quarter we increased our existing holdings in Anglo American and Sasol. A new position in the fund is Barloworld, a multinational industrial company that has partnered with Caterpillar in Southern Africa and other regions to provide equipment to the mining and construction industry. Caterpillar's global acquisition of Bucyrus should offer Barloworld the opportunity to expand its range of equipment in these regions. Management have been proactive in restructuring the group to improve capital returns by disposing of low quality businesses and redeploying the capital into mining equipment where they have created the infrastructure to provide a differentiated level of service. This should serve them well over the medium term as Southern Africa benefits from numerous resource development projects. In addition, they stand to benefit from increasing equipment maintenance spend which is a more defensive, higher margin stream of earnings. Siberia also presents a big growth opportunity if Barloworld is able to increase its market share in surface mining. Barloworld has a superior product offering in this region and, with the support of Caterpillar, we think that they are well poised to increase market penetration. While sentiment is deteriorating for resources, the Barloworld valuation offers a significant margin of safety. The banking sector has had a mixed reporting season, and in the last quarter, the sector has given up a lot of the relative gains achieved this year. Generally our financial holdings in Nedbank, MMI and Investec have performed well this year as they re-rated. Standard Bank, our biggest bank holding, reported disappointing results due to increased regulatory costs in its international UK business. Capital held in the UK business also dampens group returns on equity as it is currently earning a very low return. These issues will take time to resolve, but at the current share price levels they are priced in. The business still has a robust South African business and an African franchise that is growing at a rapid pace. The earnings base is low and at 9.5x normal PE, valuation continues to look attractive. While we have been increasing our exposure to cyclical resources shares, we still find value in global diversified businesses like British American Tobacco, MTN and Naspers. These businesses are able to grow earnings despite a difficult economic environment. In addition, earnings quality is high as they convert most of their earnings into free cash. In the case of British American Tobacco and MTN, excess cash is returned to shareholders in the form of high dividend payout ratios and share buybacks. Naspers, which has a portfolio of high quality media and internet businesses, chooses to invest its excess cash in development spend which will generate new revenue streams in future. Global macro conditions continue to contribute to a mercurial market environment with rapid changes in sentiment from 'risk on' to 'risk off' and back again. In these fickle conditions, it is our unwavering focus on long-term business fundamentals and valuation levels that assist us in finding investment opportunities and generating alpha.
Portfolio managers
Neville Chester and Pallavi Ambekar

The past quarter was incredibly volatile as the world, once again, swung between optimism and extreme pessimism over the global economic outlook. April was a strong month followed by a very weak May and early June, followed by a final recovery towards the end of June as some last minute European concessions allayed the building fears over Spain. The fund underperformed the FTSE/JSE Top 40 Index slightly during the period with a return of 0.3% against 0.6% for the index. Valuations seem to have taken a back seat as most market moves are now being driven by macroeconomic factors, both real and perceived. No day passes without some commentator expressing views on the many problems in Europe, expectations of growth and bubbles in China, or on the anaemic recovery in the US. Positive or negative, market moves are then driven by these comments and often with perverse outcomes. One such example is bad economic news driving markets up as participants view this news as likely to lead to more monetary easing, which would boost asset prices! The bottom line is that very little equity market action can be explained by rational argument. While frustrating in the short term this usually results in creating opportunities for investors that invest based on fundamental valuations and are prepared to take a long-term view. Based on this we have been adding to our weighting in resource shares as we believe these companies still offer very good long-term value, even at significantly lower commodity prices. Markets hate uncertainty and we don't think they do a good job of evaluating future production growth in these companies. As production comes through from new projects, we expect the market will start to recognise the value in these companies. The banking sector, which was not regarded favourably in 2011, has been very strong this year and as a result we have started reducing our large exposure to the big four banks. The sector is up 18.8% year to date against the market (only up 7%). Investec has however lagged its peers in this environment on market concern over its exposures outside of SA. We think the market is ignoring the quality of its wealth management franchise and the value that can ultimately be unlocked from its UK banking operations. We have therefore increased our exposure to Investec at attractive levels. Another financial stock in which we have increased our holding is MMI, the merged Momentum and Metropolitan business. The merger has now been in place for one and a half years and we expect that the synergies and benefits from this should start to become visible over the next 12 to 18 months. On a dividend yield of 7% and trading at a discount to a conservatively stated embedded value we think there is very little downside, and potential for good upside as these merger benefits accrue. We have continued to reduce our exposure to the domestic retail stocks in our portfolio as the valuations of these companies leave very little room for error in our opinion. The fund has also sold down its exposure to SABMiller as the stock rerated tremendously on the back of its good underlying operating performance and speculation around corporate activity. At current prices, we no longer see much upside. Looking forward the only certainty is that the world, and by implication capital markets, will remain volatile. It is close to the four-year anniversary of the demise of Lehman Brothers, which marked the real capitulation of markets into the global financial crisis. We are still dealing with the fall-out and actions taken by politicians and central bankers to try and address this calamitous event. To focus on macroeconomic factors in these times would be foolish as the data is irregular and often poor quality. We continue to believe a focus on long-term fundamentals will ensure continued outperformance by the fund.

Portfolio managers
Neville Chester and Pallavi Ambekar

Equity markets delivered a strong performance in the first quarter of 2012 as they reacted positively to a recovering US economy and Europe. The latter recovered from being oversold on the back of concerns over a Greek default. The fund also had a very good quarter returning 7.2% versus the benchmark ALSI 40 Index return of 5.1%. Our long-term performance continued to be strong, with meaningful outperformance over one, three, five and ten years.

A major contributor to the fund's outperformance this past quarter has been Mondi. Towards the end of last year the share price came under pressure due to investor concerns around its revenue growth prospects in an uncertain European macro environment. We felt this was more than reflected in the price and that on a long-term view, the share would outperform the market. Despite its strong year-to-date performance, Mondi continues to be a big holding in the fund. The business is an integrated paper and packaging producer with key operations in central Europe, Russia and South Africa. While this is a cyclical industry, Mondi's more defensive product mix (print paper and packaging), low cost producer status and high cash generation makes it a more robust business. In addition, its valuation multiples and dividend yield are still attractive. MTN has been one of our top three holdings in the fund and has faced a deluge of negative newsflow this year. The unrest in Nigeria post the removal of fuel subsidies, escalating sanctions against Iran and a potential lawsuit in the US bought against them by Turkcell have led to nervous shareholders exiting their investment. While we admit that these are not trivial issues, we continue to find value at these prices after taking the risks into account. The company has strong positions in underpenetrated mobile markets, which will support future growth. Even after investing high levels in capital expenditure, the company generates robust cash flows and the balance sheet is fully deleveraged. Management has committed to returning this cash flow to shareholders by increasing the dividend payout ratio to 70% of earnings and by doing share buybacks. With this powerful combination of good earnings growth and cash returns, it remains one of our big holdings.

Commodity stocks in general have come under further pressure this year as China guided to a slower growth rate of 'only' 7.5% for 2012 versus 8% per annum for the past eight years. As share prices have fallen, we took the opportunity to add to our position in diversified miners, namely Anglo American and BHP Billiton. Our valuations for these companies (using much lower commodity prices than current prices) indicate that there is sufficient margin of safety. In stark contrast, we have long felt that the gold companies have not offered the same margin of safety when comparing our valuations to share prices. As a consequence, we have held no gold shares in the fund. Despite the relatively high gold price, poor fundamentals such as declining grades, high cost inflation and poor cash flow conversion, have meant that these companies struggle to deliver good operational results. Notwithstanding their underperformance relative to the market, they remain unattractive investments in our view.

After being out of favour for a long time, our bank holdings have done well this quarter. Nedbank, in particular, has delivered sterling results benefiting from credit loss ratio normalisation and growing non-interest revenue income. We feel that the full investment case of earnings normalisation has not yet played out and that valuations remain compelling. As such, we continue to maintain our holdings. We expect markets to remain fairly unpredictable and investors should expect returns to be volatile in the short term. We remain focused on looking at valuations and taking long-term views on investments. In doing so, we believe that we will continue to deliver on the fund's excellent track record of outperformance.

Portfolio managers
Neville Chester and Pallavi Ambekar Client

The fund had a strong absolute performance in the final quarter of the year, delivering a return of 7.3% although this was behind the benchmark return of 8.4%. For the year the fund remained comfortably ahead of benchmark, delivering a return of 5.2% compared to 2.2% from the benchmark.

The major contributor to the fund's outperformance for the 12- month period was our position in British American Tobacco (BAT). This defensive, globally diversified business performed extremely well in the tough environment exhibited in 2011. This is important as BAT is a share that we have owned for a number of years. Our holding detracted from performance for a couple of years as the markets rallied strongly in the period following the global financial crisis, and ignored the compelling characteristics of BAT's strong cash generation and defensive earnings. It was only in the past year, as the magnitude of the world's economic troubles became properly appreciated, that the share outperformed strongly, assisted by the weakness of the rand.

In contrast, showing how the South African economy has to date been isolated from the global crisis to some extent, the second best performing holding in our fund for the year was Woolworths. This high end food and broad market apparel retailer has aggressively tackled its cost base and done a much better job on its assortments in clothing to deliver strong earnings growth with potential for more to come. Finally, the other major positive contributor to performance was our holding in the branded food producer Tiger Brands. The company has emerged from a period of tough competition from imports in extremely good shape with a lean cost base and an impressive array of branded food products which are consistently rated as no. 1 in their respective categories. The market is also increasingly interested in their potential growth into sub-Saharan Africa. Against this, our underweight position in Old Mutual detracted from performance. The share rallied strongly in the final month of the year as they managed to sell their Scandinavian operations for a better than expected price. We however remain unconvinced about the long-term potential for this business. We also had no exposure to Shoprite, which continued to perform extremely well on the back of high expectations for its African operations. Trading at over 20 times next year's earnings it looks extremely expensive.

Looking forward into 2012, we expect markets to remain volatile given the uncertain economic and political environment in all the major global economies. Against this uncertain environment we continue to focus on businesses that either have very defensive earnings, or those that already price in a very negative outcome.

In the former camp we would include BAT, Tiger Brands, SABMiller and MTN - all significant positions in the fund. In the latter camp would be domestic banks which are tainted by the global dislike for banks, even though they do not face the same risks. On 9 times earnings and dividend yields of 4% - 5%, they remain attractively priced investments.

What remains an interesting debate is the outlook for resources, and the impact on the commodity producers. Some measure of slowdown from China is already reflected in the price of most industrial commodities and very much so in the share prices of the producers. Given this we have continued to hold and added to the big diversified miners. We believe the valuations are such that even at much lower commodity prices there is still good value to be had.

We believe the fund is well positioned to continue to deliver exceptional market beating performance over the long term. The current volatility offers the active stock picker the opportunity to invest in great businesses at very attractive prices which will ultimately deliver the returns.

Portfolio managers
Neville Chester and Pallavi Ambekar