Market and portfolio review
The second quarter saw the short end of the cash curve and short dated bonds rally aggressively, as the market anticipated a deeper and sharper rate-cutting cycle. Against the deteriorating domestic growth backdrop, the South African Reserve Bank (SARB) cut interest rates by 1% at both the April and May monetary policy committee (MPC) meetings. This brought total interest rate cuts to 4.5% since the start of the easing cycle. However, in June the SARB surprised the market by keeping rates on hold, signalling the end of the rate-cutting cycle (at least for now). During the quarter, the shape of both the South African and Namibian curves steepened somewhat. Longer-dated yields in South Africa were driven up by concerns over increased issuance, while the short end in both markets rallied in response to the rate cuts. During this period Namibian cash rates rallied more than South African cash rates and Namibian bond yields sold off less. This resulted in an overall reduction of the yield premium of Namibian bonds over South African bonds and a much better performance from the Namibian market.

Portfolio activity
The overall duration of the portfolio remained between neutral and slightly underweight throughout the quarter. We reduced duration into strength in April, adding duration again as yields climbed in May. Bank issuer and corporate spreads remained under pressure and we continued to take advantage of this. We selectively increased credit exposure by buying mainly floating rate notes at attractive spreads.

Portfolio positioning
We believe that inflation will remain sticky in the shorter term, with the possibility of surprising on the downside over the longer term. Interest rates are likely to remain on hold for now, but again the risk is that they are cut further. With the retracement in yields, we believe the curve is now more reasonably priced. For the moment, we continue to prefer the shorter end of the yield curve, but are looking for opportunities to add duration, particularly in the 3-5 year area. Despite being relatively neutral, the portfolio holds some medium dated bonds and performance will lag should the short- to medium dated area of the curve steepen. We have also continued to selectively increase our exposure to credit and are therefore vulnerable to a further widening in credit spreads - bank spreads in particular.

Market and portfolio review
The Investec High Income Fund Namibia earned a return of 2% over the quarter, outperforming the average fund in its sector. During the review period bonds sold off and the yield curve steepened. The spreads on Namibian bonds relative to South Africa also widened, particularly in the 2015 year maturity, which hurt the fund's performance. The quarter was marked by aggressive interest rate cuts across the globe, as policy makers responded to a sharply slower global economy. Concerns of a domestic recession and the weak global backdrop moved the South African Reserve Bank (SARB) to cut interest rates by 100 basis points at both the February and March Monetary Policy Committee (MPC) meetings. The SARB surprised the market by increasing the frequency of MPC meetings to monthly and bringing forward the next scheduled meeting, effectively implementing an emergency meeting in March. The market interpreted the move to mean that interest rates would be lowered earlier than expected this year, and at a much faster pace than previously anticipated. Consequently, cash yields rallied aggressively, especially at the shorter end of the curve. The Bank of Namibia also lowered interest rates, slashing the bank rate by 100 basis points in March. Furthermore, the bi-monthly monetary policy meeting is now to be held monthly. The market is pricing in sharply lower interest rates.

The bond market was driven by international risk aversion and issuance concerns, causing the market to sell off and the yield curve to steepen. Long bonds posted large negative returns over the quarter and short-dated bonds underperformed cash.

Portfolio activity
We selectively increased overall duration through the quarter, which hurt the portfolio's performance. The duration on the cash portion of the portfolio reduced, as we preferred to invest in the 0-3 month area of the curve and add one-year floating rate notes.

We also continued to take advantage of the wide spreads in the corporate market, adding short-dated bank paper as well as some MTN and Steinhoff.

Portfolio positioning
Domestic data could continue to be disappointing and inflation could remain sticky on the way down. However, we believe that the South African Reserve Bank and the Bank of Namibia will focus more on growth than inflation and that there is scope for further aggressive interest rate cuts going forward. The market has moved to discount another 2.5% cut in rates from here. The bond market reacted to both global and local factors this past quarter. Global uncertainty and panic saw foreign investors sell our bonds, which pushed yields higher. The extra issuance from government and parastatals has compounded this sell-off and long yields are now back to September 2008 levels. We will continue to invest predominantly in the shorter end of the curve. The expected cuts in interest rates should, however, support the bond market and provide positive returns. Bonds are likely to outperform cash in the coming months.

The global uncertainty remains our biggest risk. Each time there is some panic, investors reduce risk by selling emerging market assets, including South African and Namibian bonds. While this trade is close to being exhausted, there is still some risk there.

The portfolio continues to hold some bonds and will underperform should bonds underperform cash. We are selectively increasing our exposure to credit and are therefore vulnerable to a renewed widening in credit spreads and bank spreads in particular.

Market and portfolio review
In October the global liquidity crisis caused a massive sell-off in equity markets and emerging market currencies. The global economy faltered and risk aversion reached record highs. This caused bond yields to rise sharply, as the rand sold off aggressively. The next two months saw bonds resume their bull run as yields collapsed well through September's closing levels. Global economic data deteriorated apace, and local data also pointed to a sharply slowing economy. In South Africa the benchmark R157 finished the quarter just off record yield lows at 7.2%, while one-year cash yields fell to 9.8%. The shape of the curve also changed dramatically as the curve disinverted and normalised.

For the 12 months to December the All Bond Index returned 17%, outperforming cash both for the quarter and for the year. In Namibia we saw bond spreads widen over the South African benchmarks across most of the curve. Cash rates, which started the quarter with yields well below South African rates, closed the quarter only marginally lower on local funding pressure. This provided some good investment opportunities.

Your portfolio gained 4.3% over the quarter, while cash ended 2.9% up and the All Bond Index (1-3 year) returned 5.5%. The strong performance from the bond market added to the portfolio's returns. Despite spreads not contracting over the quarter, the higher yields earned on corporate issuance contributed positively to performance.

Portfolio activity
As risk aversion gripped markets in October and into November, we reduced the duration aggressively only increasing interest rate exposure again in December. We also used the volatility to take advantage of some shorter-term opportunities and slightly increased our weighting in corporate debt. Credit spreads have remained wide and we will be adding to our corporate exposure when rates look attractive.

We continued to position for the yield curve to steepen, preferring the shorter end of the curve. Hence, we bought South African R206s over the quarter. We took advantage of the widening of spreads, purchasing some Namibian GC10s. The portfolio's exposure to floating rate bank paper was increased and we also added some credit-linked notes as spreads stabilised.

Portfolio positioning
The market is still reeling from the effects of the global credit crisis and the dramatic economic slowdown. The level of risk aversion has declined from the extreme levels seen in October. However, market sentiment is still fragile and the full economic extent of the slowdown will continue to be felt in the coming quarters. Emerging markets such as South Africa and Namibia will remain susceptible to recurring bouts of risk aversion, keeping the rand/Namibian dollar vulnerable and volatile. The South African Reserve Bank has begun to cut interest rates, with a modest 50 basis points in early December. As the huge scope of the economic slowdown has continued to manifest itself both locally and internationally, the domestic market has quickly moved to discount a full 4% of interest rates cuts in 2009.

Domestic investors have been a big driver of the rally in bonds, increasing their exposure to the asset class, while international investors remain underweight. Bonds are likely to be volatile in the coming quarter. They bounced off historic lows into year end and are likely to correct further with any renewed risk aversion, as that impacts the rand. Such sell-offs are likely to be short-lived, if the economic slowdown continues to gather momentum and growth and inflation forecasts are revised down further.

Our positioning is fairly neutral at present. However, we are still vulnerable to an aggressive sell-off in the rand if this leads to higher inflation, as well as to a renewed widening of credit spreads.