The market continued to discount a further rate hike for most of October. The money market derivatives were pricing in a 0.65% rate hike and 3mth NCD rates peaked at 13.40% by mid October (a good 0.60% higher from the start of the month). A string of positive data, however, and a stronger rand towards the end of October resulted in a change in sentiment with the market no longer looking for further interest rate hikes. Money supply and credit extension released were better than expected, with M3 measuring 15.9% vs. an expected 16.6% and credit extension measuring 9.3% vs. an expected 10.1%. It appears that the four interest rate hikes this year are starting to affect consumer credit. The Medium Term Budget put a positive spin on the market with the 2004 inflation target band raised from a 3%-5% band to a 3%-6% band, with the 3-5% target band falling away until further notice. This significantly reduces the chances that the SARB will raise interest rates at the November Monetary Policy Committee. Subsequent further positive comments by Tito Mboweni have convinced the market that the fund managers have seen the last of the interest rate hikes. By the end of October, the interest rate derivatives were no longer pricing in further. Interest rate hikes and the long end of the money market yield curve fell by 0.60%, yielding 13.50% from a peak above 14%.

The upward trend in interest rates continued into September as the SARB raised interest rates for a fourth time this year, taking the Repo to 13.50% from a 9.50% at the start of the year. At the beginning of September, the money market derivatives were pricing in just over a 0.50% hike. The market, however, remained extremely divided over whether the SARB would leave rates unchanged, hike rates by 0.50% or hike rates by 1%.

The portfolio was well positioned for the move in interest rates. In anticipation of further rate hikes, we positioned the portfolio in the very short end of the yield curve.

Going forward we remain cautious on the near term direction in interest rates. We have placed a small probability on another Repo rate hike, but feel that the more likely scenario is for rates to remain on hold for longer. We will look for opportunities to increase duration into weakness.

Upward pressure was evidenced across the money market yield curve during the month of August, as the market started to price in further interest rate hikes. Prior to the hike, the money market derivatives where pricing in 0.50% by September and a 0.80% by early next year. The shift in sentiment can be ascribed to a number of factors. These factors include, a more volatile and generally weaker rand; continued pressure on oil and food prices and evidence of second-round inflation.

It is becoming increasingly evident that the SARB is unlikely to meet its inflation targets. However, the market remained extremely divided over whether the SARB would raise interest rates given their limited appetite to tighten for a fourth time this year. Of the economists polled in the recent Reuters survey, half voted for no increase.

By hiking interest rates a full 1%, the SARB has shown some commitment to meeting the inflation target. Leaving rates unchanged would have had consequences on the SARB's credibility.

The fund was well positioned during the month for the rate hike with a large percentage of cash concentrated in the very short end of the yield curve. The fund managers remain cautious on rates over the short term.

The upward trend in interest rates continued into the second quarter of the year, with a further 1% rise in interest rates occurring mid June. This is the third time this year that the SARB has raised interest rates, taking the repo rate to 12.50% from a 9.50% level at the start of the year. The market largely anticipated the recent hike in June, with money market NCD rates rising during the quarter to price in most of the anticipated hike by May. Most of the upward pressure occurred in the shorter end of the curve with 3mth yields increasing 0.65% and 12mth yields increasing 0.20% for the quarter.

The fund was defensively positioned for the quarter in line with our expectations of a rising interest rate market. The fund managers remain modestly cautious on money market rates, but will look for opportunities to increase duration into any weakness.

Money Market rates remained broadly stable during the month of April after the 1% interest rate hike in March. However, some upward pressure was seen in the shorter end. Three month NCD rates increased 45bp during the month and are currently yielding 11.25%.

Some upward pressure on call and one month rates were also experienced as we approached month end. The fund remains short in duration in line with our view that the fund manager is expecting further interest rate hikes. The short duration allowed us to take advantage of the upward pressure in the short end.