The fund enjoyed a strong quarter. It has outperformed its benchmark by 1.9% p.a. over a rolling 3-year period (7.3% versus 5.4% p.a.) and 1.2% p.a. over a rolling 5-year period (14.5% versus 13.3% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

World equity markets and the All Share Index have traded in a broad range since late 2009, reflecting concerns over the sustainability of the global economic recovery. Governments and regulators remain resolute in their goal of preventing a recurrence of the financial crisis and economic policies are likely to remain supportive of growth. This means that global interest rates are likely to remain low for longer with the potential for further quantitative easing. As long as this is the case, the search for yield will continue to drive emerging market bond yields lower and emerging market currencies stronger.

The All Share Index is now only 10% off the May 2008 peak. Following this strong performance, we are more circumspect about the future. Although equities remain our preferred asset class, we continue to take profits to maintain what we consider a neutral equity exposure. We continue to believe that global equities are more attractive than local equities. When one considers the very strong rand, investors currently have an excellent opportunity to diversify their portfolios. We have taken full advantage of this opportunity across our client portfolios.

The All Share Index returned 13.3% for the quarter. Industrials led the market higher returning 18.5%, while financials returned 15.2% and resources 7.1%. Resources have now returned -4.7% over 3 years and while we remain underweight, valuations have become more reasonable based on our assessment of mid-cycle earnings. Our preferred resource exposure is via Sasol given its long-life assets, low cost base and the favourable long-term fundamentals of oil as a commodity. We have also aggressively added to our holding in Anglo American following the diversified miners sell-off over concerns that the world economy was headed for a double dip recession. We remain underweight gold and platinum producers. These businesses continue to experience declining grades, production disappointments and enormous cost pressures (labour and electricity). Although these companies would benefit were the rand to weaken, they do not offer a sufficient margin of safety to justify a significant holding.

Banks lagged the Financial Index, returning 14.5% for the three month period. We remain overweight banks and have added to our position during the quarter. Although impairment provisions have been slow to normalise (impacted by debt counselling and a weaker economy), we believe valuations of the large, commercial banks are attractive at 10 times 1-year forward earnings and price-tobook ratios of 1.8 times. South Africa, like many other emerging markets, has benefited from global risk appetite, with foreigners net buyers of approximately R100 billion of local equities and bonds year-to-date. This has been the primary driver behind the strength of the rand, which at the time of writing, has broken below R7 to the dollar. As long as global interest rates are close to zero, the search for yield could result in the rand remaining stronger for longer. As long-term investors, we do not try and time markets. We believe that the rand is overvalued and has to weaken - the manufacturing and export sector of the economy is simply uncompetitive at current levels. It is for this reason that we maintain a significant rand-hedge element in our portfolios, owning attractively valued, globally diversified businesses such as MTN, British American Tobacco, Naspers, Richemont, SABMiller and Bidvest.

Consumer-facing businesses, most notably retailers, have been exceptional performers with share prices up nearly 4 times on average since the start of the interest rate hike cycle in May 2006. The pendulum has swung from fear to greed with foreign investors being big buyers of South African retailers. This has culminated in Wal-Mart recently offering to buy Massmart Holdings for R148 per share for an implied 19.5 times price-to-earnings ratio. Wal-Mart itself trades on 12.5 times 1-year forward earnings with approximately 25% of its earnings derived from faster growing emerging markets. While emerging markets are in much better fiscal shape than their developed market peers and retailers benefit from a stronger rand and lower interest rates, we believe that this is more than discounted in the current share prices. Retailers no longer offer compelling value based on our assessment of midcycle earnings and we have sold-out of our retail exposure with the exception of Spar, Woolworths and Mr Price. We continue to find value in selected small caps with many trading at around 6 times our assessment of normalised earnings. Approximately a third of the fund is now invested in shares outside the ALSI40.

The bond market returned 8% for the quarter, outperforming cash which returned 1.7%. We remain underweight bonds and believe that current yields do not compensate investors for upside risks to inflation and yield pressure from heavy issuance expected in the future. We currently own corporate bonds where yield is augmented by credit spreads which are approximately at our assessment of mid-cycle levels. We also find value in inflation-linked bonds given our view that there is significant upside risk to inflation expectations over the next few years (electricity tariffs, labour settlements, property rates and taxes). We remain negative on global bonds and believe that yields will have to rise to compensate investors for the risk of higher inflation in the future. Listed property returned 13.7% for the quarter. At current levels, property yields are too low and no longer offer value. As such, we have taken profits during the quarter.

In conclusion, equity markets are no longer cheap. Despite the bounce in markets during the quarter (which has continued into October), uncertainties remain. In a world of collapsing time horizons it is tough to hold a firm course and make the correct long-term decisions. It is essential that investment decisions are evaluated through the course of a full cycle. We have elected to do just that, setting emotion aside and concentrating our bets where our conviction leads us.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund enjoyed a strong quarter. It has outperformed its benchmark by 1.7% p.a. over a rolling 3-year period (5.3% versus 3.6% p.a.) and by 1.4% p.a. over a rolling 5-year period (15.2% versus 13.8% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

In our previous commentary we cautioned that markets were likely to remain volatile for some time to come. In the past quarter the sovereign debt crisis in Europe, with Greece at the centre, dominated world global financial markets. Fears of contagion within Europe resulted in significant euro weakness and heightened risk aversion triggered a sell-off in equity markets worldwide. In response, the European Union and International Monetary Fund agreed to an unprecedented rescue package of approximately $1 trillion.

The quantum of the bailout demonstrates the lengths that governments and regulators are prepared to go to prevent a reoccurrence of the financial crisis. This means that economic policies will be unambiguously geared to stimulating growth. Interest rates are therefore likely to remain lower for longer and while this increases the risk of higher inflation in the future, it supports the pricing of risk assets in the short term. Equities remain our preferred asset class for producing inflation-beating returns. We have added to our equity positions on the back of market weakness and hold what we consider to be neutral equity exposure. We continue to favour global over local equities and have taken full advantage of this opportunity, during a period of rand strength, across our client portfolios.

The All Share Index returned -8.2% for the quarter. Resources led the market lower returning -11.9%, industrials returned -4.5% and financials -7.8%. While we remain underweight resources, valuations have become more reasonable. Diversified miners were particularly hard hit during the quarter over concerns that the draconian resource super profit tax mooted in Australia would spread to other geographies. Anglo American now trades on 10 times our assessment of normalised earnings including production growth, and we have added to our holding. It has long-life, high quality assets and post the $2 billion dollar convertible bond, the balance sheet has been strengthened. Following a sustained period of high commodity prices, inefficiencies had crept into the business. Management have embarked on a significant cost-cutting initiative and this will be supportive of future earnings growth. We previously had zero direct exposure to platinum, but have started buying Impala Platinum. Post the sell-off it trades on 12 times our assessment of normal earnings with the optionality of achieving greater production in Zimplats, its low-cost, high grade, Zimbabwean operations. We remain underweight gold counters, with our only exposure being a 3% position in Anglogold.

We remain overweight banks, which returned -9.9% for the quarter. South African banks are well-managed, well-capitalised, conservatively provisioned and trade on attractive ratings of 9 times 1-year forward earnings and price-to-book ratios of 1.7 times. Future earnings growth prospects are good driven initially by an unwinding of the impairment provision and then by advances growth as consumers respond to lower interest rates.
The South African economy is healing and inflation is now well within the target band, driven by rand strength and lower food prices. As long as inflation is contained, monetary policy will remain supportive. While we expect inflation to remain benign in the short term, we are concerned longer term given the underlying pressures from higher labour settlements, increased electricity tariffs and rising property rates and levies. Rand strength continues to be supported by global risk appetite. Longer-term, we believe that the rand would have to weaken - South Africa is simply uncompetitive at current levels. Consequently, we maintain a significant rand-hedge element in our portfolios, owning attractively valued, globally diversified businesses that happen to be listed in South Africa such as MTN, British American Tobacco, Naspers, Richemont, SABMiller and Bidvest. Naspers remains a top five holding in our portfolios. The Pay-TV business (a third of which is Africa) remains a large component of its valuation. This is an annuity-based, defensive business that generates large amounts of cash and continues to show good subscriber growth despite increased competition. The remaining businesses largely comprise the internet assets, Tencent and Tradus and the print business, Media24. Tencent is a 36%-owned associate and is principally engaged in the provision of internet value-added services, including online games, to users in China. It has been a spectacular acquisition with its value increasing nearly one hundred fold over a period of six years. Recently however, the Chinese Ministry of Culture has issued new regulations impacting providers of online games. These included the requirement for users to register for services using their identity document (similar to RICA in South Africa) and restricting the playing time of minors. The regulations have caused uncertainty among investors of Tencent which has weighed heavily on the Naspers share price. We have thoroughly assessed the proposed changes and believe the impact to be minimal. Carrying Tencent at roughly half the current share price, our valuation of Naspers offers a considerable margin of safety. We have used this opportunity to add to our existing position.

MTN remains the largest holding in the fund. It has performed poorly on concerns over increased competition with the imminent entry of Bharti Airtel in Nigeria and uncertainty over corporate action; the most recent example being the failed acquisition of Orascom Telecom. We continue to believe that MTN presents an attractive opportunity and have added to our holding during the quarter. It trades on an undemanding rating 2-3 years out and should enjoy many years of above-average growth given its dominant position in many under-penetrated mobile markets.

Our local exposures remain weighted towards quality counters with strong franchises and good management such as the Spar Group, Woolworths and Mr Price. Despite a period of strong share price appreciation for retailers, the above counters remain attractive based on our assessment of fair value using mid-cycle earnings. That said, we have used the recent run to take profits in Shoprite, Truworths and Foschini. As mentioned in previous commentary, we believe small caps present a compelling opportunity to the long-term investor and own many quality companies trading at 6 times our assessment of normalised earnings.

The bond market returned 1.1% for the quarter, underperforming the cash return of 1.7%. We remain underweight bonds and believe that current yields do not compensate investors for upside risks to inflation and yield pressure from heavy issuance expected in the future. We currently own corporate bonds where yield is augmented by credit spreads which are above our assessment of normal levels. We also find value in inflation-linked bonds given our view that there is significant upside risk to inflation expectations over the next few years. We remain negative on global bonds and believe that yields will have to rise to compensate investors for the risk of higher inflation in the future. Listed property returned 0.6% for the quarter. At current levels, property offer reasonable value with good prospects of real distribution growth over the medium term.

In conclusion, financial markets remain finely balanced. Global economies are united in their goal of deficit reduction, but differ as to the best path to follow. The United States plans to spend big to stimulate growth whereas Europe has introduced significant austerity measures to rein in costs. This has created enormous uncertainty and at the time of writing, financial markets have once again sold-off on concerns that the world may be headed for a double-dip recession. Uncertainty is the friend of the patient, rational investor as it often presents opportunities as market participants lose their heads and misprice assets. We remain resolute to 'cutting out the noise' and focusing on our long-term objective of creating wealth for our clients.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund began the year with a strong quarter. It has outperformed its benchmark by 1.1% p.a. over a rolling 3- year period (7.2% versus 6.1% p.a.) and 1.3% p.a. over a rolling 5-year period (17.7% versus 16.4% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

Equity market returns have been excellent, with the All Share Index returning 19.9% and 17.1% p.a. over the last five and ten years respectively. Put differently, investors have earned approximately 2.5 and 5 times their capital over the five and ten year periods. While many have become accustomed to earning such handsome returns, it truly has been an exceptional period where both global and local markets (more so) benefitted from a very asset-friendly environment. Given this context, we believe the next few years will be more challenging and returns more muted. This environment should favour the patient, long-term investor who is disciplined and valuation-driven.

We reduced our aggressive overweight equity position towards the latter part of 2009 on the back of strong market returns and now hold what we consider a neutral equity exposure. Despite this profit-taking, equities remain our preferred asset class for producing inflation-beating, longterm returns. We continue to believe that global equities are more attractive than local equities and given the continued strength of the rand investors are currently afforded an excellent opportunity to diversify their portfolios. We have taken full advantage of this opportunity across client portfolios.

The All Share Index returned 4.5% for the first quarter of 2010. Financials led the market with a 9.9% return, while industrials returned 4.4% and resources 2.1%. We remain underweight resources with the view that the upside to longterm valuations, based on mid-cycle earnings, is not attractive enough to justify higher exposures. Notwithstanding this view, we believe Sasol presents a good opportunity given its long-life assets, low cost base and the favourable long-term fundamentals of oil as a commodity. We have started adding to our Anglogold position. While gold and platinum producers are experiencing enormous cost pressures (labour and electricity), we believe that this is adequately discounted in the Anglogold share price.Further, one is not currently paying for the optionality of a weaker rand and future growth projects, which if successful, could be company transforming.

Banks led the financial index upwards returning 12.2% for the quarter. Despite the recent run banks remain attractive, trading at price-to-book ratios of 2 and forward price earnings ratios of 10. South African banks remain wellcapitalised and offer good earnings growth prospects driven initially by an unwinding of the impairment provision and followed by advances growth as consumers respond to lower interest rates.

While the rand remains very strong in the short term, we continue to believe the risks are heavily skewed to the downside. Industrial South Africa is not competitive at these levels. Also, at some point, the excessive global financial stimulus has to be withdrawn and global interest rates will have to be raised. This will reduce the attractiveness of the carry trade currently on offer, placing further pressure on the rand. The portfolio remains skewed towards rand-hedge counters that we consider to be attractively valued, such as MTN, Naspers, SABMiller, Richemont and Bidvest. These companies are globally diversified with best-in-class business models that should benefit from a depreciating rand.

Within industrials, we believe it will be a challenge for the average domestic company to defend its real earnings. Consequently, we remain defensively positioned with holdings in the Spar Group, Shoprite Holdings and AVI. The earnings of these companies are more bankable than the average industrial company and while one does pay for this certainty, the premium is not excessive. As highlighted in previous commentary, we continue to find value in small caps. Although small caps have recovered significantly off the lows of March 2009, many quality companies with good franchises can be acquired at 6 times our assessment of normalised earnings.

MTN remains the largest individual position in the fund. Almost two years have elapsed since we started building the position in 2008; disappointingly the share price is around the same nominal level. Sometimes the market takes time to assess the long-term fundamentals of an investment; in such a case it is the job of the rational investor to remain focused and patient. The news flow surrounding MTN has been poor. First there was the uncertainty and subsequent collapse of the Bharti deal. We were not in favour of the proposed transaction as the indicative price range undervalued MTN and payment was partly in Bharti shares, a company we consider to be fairly valued. Secondly, post the failed transaction Bharti acquired Zain's African operations, allowing it to enter the lucrative Nigerian market. Bharti is well-capitalised and presents a credible competitor to MTN. We believe concerns over MTN's ability to defend its earnings in Nigeria has been more than adequately discounted in the current share price and remain convinced that the competitive advantages this group enjoys remain intact.

The bond market had a good quarter with a return of 4.4%, outperforming cash which returned 1.8%. We remain underweight bonds as we believe that current yields do not compensate investors for upside risks to inflation and the yield pressure from heavy issuance expected in the future. We currently own corporate bonds where spreads are still above our assessment of normal levels. We also find value in inflation-linked bonds given our view that there is upside risk to inflation expectations over the next few years given the significant cost pressures being experienced by the average South African company (high wage settlements and electricity price increases). Listed property enjoyed a very strong quarter, returning 9.9%, despite de-rating relative to bonds. At current levels, property offer reasonable value with good prospects of real distribution growth over the medium term.

In conclusion, markets are likely to remain volatile and challenging for some time to come. As a long-term investor, this is not bad news as volatile markets often create opportunities when emotion trumps reason. We look forward to capitalising on these opportunities.

Portfolio managers
Karl Leinberger and Quinton Ivan

The fund ended the year with a strong quarter. It has outperformed its benchmark by 1.3% p.a. over a rolling 3-year period (8.5% p.a. versus 7.2% p.a.) and 1.5% p.a. over a rolling 5-year period (17.6% versus 16.1% p.a.). The fund is one of the top performing funds in its sector over all meaningful periods.

The last few years have been nothing short of extraordinary. In 2008 the pendulum swung swiftly from greed to fear. Investors watched in horror as their retirement capital was washed away in the greatest banking crisis of modern times. Then, in the first quarter of 2009, just as most investors had moved to the safety of cash and government bonds, risk assets around the world rallied. The differing fortunes of equity and bond markets is well illustrated by the 2009 calendar year returns of -1.0% from the All Bond Index and +32.1% from the All Share Index (70.1% in US dollars). Emerging markets returned 79.0%, oil 105% and copper 153.1% (in US dollars).

With the very strong showing of risk assets we are much more circumspect about the future. While in 2009 a rising tide lifted all boats, we expect lower correlations in the year ahead. This should favour stock-pickers. Equities remain our favored asset class, although we have taken profits from a very aggressive overweight position in the early part of 2009. We now hold what we consider to be a neutral equity exposure. We continue to believe that global equities are more attractive than local equities. When one considers the very strong rand, we believe that investors currently have an excellent opportunity to diversify their portfolios. We have taken full advantage of this in all our funds.

The All Share Index returned 11.4% in the final quarter of 2009. Resources led the market with a 16.7% return, while financials returned 6.5% and industrials 8.5%. We remain underweight resources, with the view that the upside to longterm valuations, based on mid-cycle earnings, is not attractive enough to justify higher exposures. We have virtually no exposure to gold and platinum counters. Although these companies would benefit were the rand to weaken, they are experiencing enormous cost pressures and do not offer sufficient upside to their long-term business value to justify a holding.

MTN is the largest holding in the fund. It is an over-owned stock that has underperformed as loose holders of the stock have sold over concerns on the collapse of the Bharti deal and the lack of any clear catalyst to unlock value. We, as always, have no interest in catalysts and are only concerned with long-term value. The company trades on very undemanding ratings 2-3 years out and should enjoy many years of above-average growth with their dominant position in many under-penetrated mobile markets.

Small caps remain a differentiating feature in our portfolios. The sector crashed after reaching absurdly high levels at the top of the bull market. There have been some company failures (and we expect more to come). Notwithstanding these challenges, we have identified many quality companies trading at 5 times our assessment of normalised earnings and have therefore significantly increased our exposure to small caps over the last few quarters.

Bonds (+1.1%) underperformed cash (+1.8%) in the quarter. We remain underweight bonds. Current yields do not compensate investors for the upside risks to inflation and for the risk that heavy issuance will knock yields. We do own corporate bonds where spreads are still above long-term 'normal' levels as well as inflationlinked bonds. While inflation could come in below market expectations in the year ahead, we think that the upside risks in the years thereafter are significant.

In conclusion, while we have taken profits on equities, we remain of the view that equities offer the best prospect of inflation-beating long-term returns. Recent strong returns raise the question of whether or not we should be underweight the asset class. While we don't think it is justified yet, we will not hesitate to sell if equities become overvalued.

We also welcome Quinton Ivan as co-manager of the fund. Quinton has been with Coronation for almost 5 years and has been the comanager of the Coronation Industrial fund for three years. We are excited about his future involvement and contribution.

Portfolio managers
Karl Leinberger and Quinton Ivan