As was mentioned in last month's comment, bear markets tend to be punctuated by short sharp reversals where prices bounce from a position of real weakness before the primary downtrend eventually reasserts itself. This October has been a case in point with markets around the world rallying sharply from their end September lows. In some ways, this October has been very similar to October 2001 with a broadly based rally from very oversold territory. The power of hindsight of course allows them to see that the rally of late 2001 proved false, and the smart thing to do would have been to remain bearish. Looking forward is always a lot tougher, however, at this point it is too early for them to come to a conclusion as to whether this rally is another bear market correction, or the start of something more meaningful. So what should the fund managers do in the meantime? As often stated in this monthly comment, their stock selection process for overseas equities makes the assumption that on average, share price trends persist. As a consequence, until the fund managers have definitive evidence that equity markets around the world have moved out of their bear phase into the next bull market, the fund managers will retain a defensive bias within the Fund. Investors should not be surprised then that for the time being, the returns generated by the Fund will lag a rising equity market.

September was another devastating month for global equities with the average share price falling 11% in US Dollar terms. I'm sure that you do not need telling that as bear markets go, this is a bad one. The S&P 500 Index of US company share prices is now down 50% from its peak of March 2000. To put that into context, only the bear market of the early 1930s was deeper than this one. Other areas have had it even worse. The German DAX Index, for example, is down by two thirds. In terms of duration also this present bear market shows itself as severe. So where to from here?

While markets clearly trend for meaningful periods of time, they never move in a straight line. A typical bear market will be made up of substantial downwaves that are punctuated by sharp rallies before the downtrend reasserts itself. It is easy to forget that between September of 2001 and March 2002, equity markets rose by 54%.

There are, I believe, similarities between markets today and the way they were in September 2001 in terms of the speed of market decline in the months leading up to those points. I believe it is highly likely that equity markets will bounce sharply over the next few months and that such a rally could well match the late 2001 bounce in terms of amplitude. Am I suggesting the start of a new bull market? Absolutely not. This should be seen only as a bounce in a bear market.

Equity markets appear to be in shock from a very weak summer period and while overall market levels were pretty much unchanged in August, there was considerable volatility. The market tried to bounce at the start of the month, which is not surprising given the speed with which it had fallen over the first half of the year. However, weak economic data in the US combined with cautious guidance from several large multinational companies regarding their prospects for the remainder of the year served to drive the market lower again.

Stock market historians tell us that bear markets tend to follow a fairly predictable course. Investors typically experience a flow of emotion that starts with denial("it's only a dip, we should buy on the dips") through anger at the companies they are invested in and also at other market participants to the final stage of capitulation where they write off their investments in their own minds and stop caring. As a colleague of mine said recently, "stock markets tend to bottom out when nobody is looking".

It's pretty clear to me that investors have largely come through the denial phase now with very few clinging to the belief that this is a dip to buy into. In fact at 28 months, this is the longest US equity bear market since the 1930's. It is also pretty obvious that there is a lot of anger around particularly directed toward the senior management teams of US corporations who appear to have done quite well for themselves personally while their companies collapsed around them. What about capitulation? I would say that while certain areas of the stock market are seeing signs of capitulation with investors leaving and pledging never to return, we are yet to see investors move to a position of complete disinterest in equities as an asset class. That time is getting closer.

Following a very weak June, global equity markets have now fallen back to test the low levels reached in September of 2001. At that time the panic had been induced by terrorism and there were those predicting that the suicide bombers were in the process of bringing to an end this golden age of capitalism. Now, nine months on, the terrorist threat seems to be somewhat less pressing although there are still those predicting the end of capitalism. This time the agents of disaster are not foreign fanatics but home grown chief executives. Two huge accounting scandals have now rocked the US equity market in Enron and Worldcom and it would take a brave man to guarantee that there won't be any more. Companies that have grown through acquisition seem to be most at risk from those now busily scouring corporate accounts for hints of wrongdoing and it is no coincidence that our stock selection process deliberately biases us against such investment opportunities. We have no view as to whether markets will rally from current levels, rather we prefer to build our portfolios by looking for individual investment ideas from around the world that meet a basic set of criteria. They must be cheap, they must have a decent history, they must be enjoying upward revisions to current year profit forecasts and their share prices must be trending upward. As you can imagine in the current difficult environment for corporate profitability, such ideas are few and far between. The beauty of having the whole world to choose from (we screen some 4,000 companies each week) is that such ideas are there to be found if you are prepared to look hard enough. The fund managers are currently avoiding the largest companies in the world and are finding a more fertile hunting ground for our ideal companies in the mid-cap area of the market As a consequence the portfolio is today comprised of a bunch of companies that could hardly be described as household names. Examples would include two housebuilders, one in the UK (Barratt)and one in the US (Toll Bros), five small regional US savings banks, a company that makes dental equipment (Dentsply) and an Irish dairy company (Kerry Group). An eclectic bunch with little in common other than they meet our particular stock selection criteria.