In May we were left wondering whether the pullback we experienced was a bull market correction or in fact the top of the current bull trend we have enjoyed since early 2003. By the end of Q2 the question appeared to have been answered as the market roared back fuelled mainly by resources. In Q3 the market has continued upwards, posting a new high in early September and then closing the quarter only marginally below that. Q3 return for the ALSI came in at 6.3%, which sounds respectable. The catch, however, is that the Rand depreciated markedly (from 6.80 to 7.80 R/US$) over the last six weeks. So the +6.3% Rand return translates into a -1.8% return in US Dollars.

During times of currency volatility (or in fact any macro inflection points), quant models tend to struggle. At these times, the market disconnects from the normally reliable drivers such as valuation, momentum, sentiment or quality measures as investors trade aggressively to reposition their portfolios for the perceived change in the macro environment. The problem is macro economic variables are notoriously difficult to forecast, and those forecasts, based on overconfidence, often turn out to be off the mark. In time the market then returns to fundamentals and the quant models resume their effectiveness.

This current episode of currency volatility has been no different for our quantitative model. The fund has lagged benchmark this quarter, returning 4.8% against the SWIX benchmark return of 6.4%. Over the longer term, the fund remains well ahead of benchmark and 1st Quartile against its peers in the general equity sector.

Looking forward, we continue to diligently apply our statistical arbitrage model, and as always are striving to improve our process. By researching opportunities to better forecast returns, control risk, construct efficient portfolios and minimise implementation costs, we believe we can further enhance your returns.

In Q2 2006 the markets provided us with a sharp reminder that equities are volatile. They generally do not climb smoothly upwards as we've become accustomed to over the last three years. Rather, the more general behaviour is for long term gains to be interrupted by sharp corrections in the short term and bear markets or sideways drifts over the medium term.

The correction we experienced, although painful at the time is barely a blip on a long term chart and will not be remembered in the long term history of the market. From its peak on the 11th of May at 22 100 the ALSI retraced to 18 750 by the 14th of June; a 15% correction. By the end of the quarter though, the market had regained much of that, closing out at 21 240 which was above its level of 20 351 at the start of the 2nd quarter. Once you include dividends, the ALSI posted a respectable Q2 return of 4.9%.

The funds benchmark, the SWIX, with it's lower offshore and resources component did not fare quite as well, ending the quarter marginally down (- 0.4%). The fund continued to perform above benchmark with a return of 0.8% for the quarter. Over 1 year the fund has returned 58.5% and is the top performer amongst 51 general equity funds. Notable winners for the fund this quarter were Northam Platinum, Illovo, Billiton, Gold Fields and Mittal Steel. On the downside, Santam, Foshini, Hiveld and Brait were the largest detractors.

Looking forward, we continue to diligently apply our statistical arbitrage model, and as always are striving to improve our process. By researching opportunities to better forecast returns, control risk, construct efficient portfolios and minimise implementation costs, we believe we can further enhance your funds returns.

In April last year Investec Index Fund became Investec Active Quants Fund (IAQ), converting from a passive tracker of the all share index into what its manager, Grant Irvine-Smith, describes as one applying a "quite aggressive" approach. And though it is, as he adds, "still early days", it is an approach that has delivered strong returns.

IAQ's benchmark is the shareholder weighted all share index (Swix), which differs from the basic all share index (Alsi) and is generally regarded as a tougher target to beat.

The Swix is weighted in accordance with the free float of shares available for investment in SA and excludes the portion of dual-listed shares held offshore. Investec says this makes the Swix more diversified and less exposed to currency movements and commodities than the Alsi.

The Swix, which largely reflects the aggregate equity composition of institutional pension funds, has proved a tough adversary over the 12 months to May 5, delivering a total return of 70,06%. IAQ just beat it to the post with a 71,38% return before costs.

But IAQ is in no way a souped-up index tracking fund, says Irvine-Smith. While the Swix contains 160 counters, IAQ's portfolio will typically have about 30. This means taking aggressive over- and underweight positions relative to the Swix and is reflected in IAQ's top 10 holdings, which currently make up 58% of the portfolio.

Precisely how Irvine-Smith goes about share selection is shrouded in mystique typical of quants managers. "You do not want competitors to know your exact approach," he says. All he is prepared to say is that a "multifactor" model that includes fundamental and technical inputs is used to forecast returns.

IAQ must not be confused with an absolute return fund, which aims to protect investors against a market fall. IAQ's mandate is to be fully invested and "just outperform", says Irvine-Smith.

Overall, IAQ's approach will suit those who want an aggressively managed equity fund aiming to be among the sector's top performers. But it will not suit those unwilling to take the knocks that the market will inevitably deliver.

Financial Mail - 19May2006

2006 has started with a bang. In the first quarter, despite a growing nervousness regarding market levels, there has been no stopping the commodity fuelled bull run. The All Share Index sliced through the psychologically key 20 000 level 10 days before quarter end. For the quarter the market returned a very solid 13.3%. The one year number sits at 57.4% and the current bull trend (starting in April 2003) is now almost three years old and has delivered 201% compound total return.

The fund has performed well in this environment. Over the quarter, the fund delivered a return of 18.1% for investors, outpacing the general market significantly. This compares extremely well against competitor funds. In fact, out of 53 General Equity Funds, this is the second highest return. Big winners for the fund this quarter were Northam Platinum, Illovo, Aveng and Brait. On the downside, Mittal Steel detracted from performance.

Looking forward, we continue to diligently apply our statistical arbitrage model. Ambition is a permanent state of dissatisfaction with the present. Rather than allowing complacency to set in we are always striving to enhance our quantitative model further. By researching opportunities to better forecast returns, control risk, construct efficient portfolios and minimise implementation costs, we believe we can further enhance this fund.

Investec Active Quants (IAQ) was born out of Investec's passive all share index (Alsi) tracker in the first quarter of 2005. Instead of just equalling Alsi returns, IAQ takes aggressive positions in an effort to beat the Alsi shareholder weighted index's (Swix) return. Though the Swix is viewed as a tougher challenge than the Alsi, IAQ has acquitted itself well, with its price gaining 52,7% since March 1 2005 compared with the Swix's 46,7% rise. Average equity general fund prices rose 38,3% over the period.

Financial Mail - 03 March 2006