Market review
The third quarter was dominated by the subprime housing crisis in the United States, widespread credit concerns and the growth prospects of the US economy. The general reluctance of banks to lend to each other was not confined to the US, and global banks saw a severe squeeze in liquidity. A full-blown implosion of the US credit market was narrowly averted when the US Federal Reserve (the Fed) first cut the rate at which it lends to commercial banks and later the benchmark federal funds rate, from 5.25% to 4.75%. Amid the turmoil, global equity markets ended the quarter well in positive territory to reach record highs; bouncing off their intra quarter (August) lows. The MSCI World Index gained 2.5% in US dollar terms over the quarter. The MSCI Emerging Market Index extended its positive performance (up 14.5% in US dollars) over the quarter, mainly on the back of a very strong performance out of Asia (up 19%).

Global events reflected in the SA market, causing bonds and the currency to weaken and equities to sell off as risk appetite waned and uncertainty with regard to the global outlook grew. However, the bears seemed to lose the battle yet again as US Federal Reserve governor, Ben Bernanke, provided some monetary relief. Equities recovered strongly from their August lows, gaining 6.7% over the quarter. The local market was led higher by resources (up 13.5%) and industrials (up 3.3%). Financials, which were caught up in global credit concerns were down 1.6% over the quarter. Bond and property yields pushed lower and the currency gained strongly against a falling dollar. Over the quarter the All Bond Index was 3.4% higher, listed property rose by 9.5% and cash (as measured by the STeFI) earned a return of 2.3%.

Fund performance
The Investec Equity Fund gained 4.1%, over the quarter, performing in line with its peer group, but behind the benchmark. Our overweight position in resource shares added value. We held a neutral position in financial shares, as the valuation levels are attractive and earnings growth in some areas is robust. Global concerns impacted on South African banks and resulted in a poor performance. However, these concerns are not a reality for SA banks and we do expect a rebound in performance. In addition, we are getting closer to the top of the interest rate cycle and banks are likely to perform better once interest rate risk subsides. However, our residential property market is far from cheap and if residential property prices start falling, this will impact negatively on earnings revisions. Our lack of property shares detracted from performance. Despite rising bond yields, listed South African property shares delivered good returns. However, the slowing consumer environment will impact on returns from this asset class.

Our best returns came from Kumba Iron Ore, BHP Billiton and Great Basin Gold, whilst holding Foschini hurt as did our holding in Steinhoff. Foschini is struggling operationally but it is exceptionally cheap. However, we have repositioned some of the weighting into Truworths, which is of a higher quality and earnings revisions are sound. Steinhoff's recent results were disappointing and earnings revisions have moved backwards. We have derated our weighting, but believe that the valuation has now reached rock bottom and hence some weighting is appropriate.

Billiton and Kumba continue to receive good upgrades and we remain firm holders. We sold out of our Sappi holding as the weakness in the US dollar, is bringing price increases in their underlying markets into question. Billiton has strongly outperformed Standard Bank this year. We continue to like both companies. They are of a high quality and have good earnings revisions.

Portfolio activity
We reduced our overweight resource counters over the quarter by lightening our exposure to platinum shares. Whilst the platinum price remains firm, companies are experiencing cost and production problems and hence the earnings growth is at risk. We took profits on our position in Sasol, which served us well. A quarter ago we believed that regulatory risk was overstated and that the company would improve operationally. This has happened and the investment case now hinges much more on the oil price. Hence we trimmed a bit of our holding. We dramatically increased our weighting in MTN to around 7% of the portfolio. Earnings revisions are now very solid and the valuation is undemanding.

We increased our weighting in fixed investment counters. Revisions remain robust and we do not believe that valuation levels are excessive given the very strong revisions. In global terms the counters are not unattractively valued. We reduced our holdings in shares with poor earnings revisions, trimming Foschini and Steinhoff.

Market outlook and portfolio positioning
Emerging markets are trading at 18.5 times earnings compared to 16.8 times earnings for the MSCI World Index. The price to book multiple also exceeds that of developed markets at three times compared to 2.7 times. This is not such serious a concern as developing market growth is outpacing developed market growth. It is the composition of the valuations, which causes us to worry. Our view is that the Chinese mainland stock market is experiencing a bubble. Bubbles burst at some point but the economic impact and timing are hard to predict. When the Saudi market halved from a price earnings ratio (PE) of 61 times in February 2006, there was not much economic impact.

South Africa's valuation levels are far more favourable. The Johannesburg Stock Exchange's All Share Index is on 15.5 times trailing earnings and earnings growth is 40%, but likely to slow from here. In the event of a fallout in the Chinese market our resource counters will probably sell off, as will shares with a high correlation to emerging markets in general. However, unless this translates into an economic slowdown in China, the effect on our stock market will probably be temporary, as valuation levels and earnings growth will be supportive.

With the cut in interest rates over the quarter we are now seeing downward revisions in consumer related shares. We are underweight this area of the portfolio. The fund is overweight fixed investment related shares, which are on the receiving end of increased government spending and earnings upgrades. However, we now believe that the inflation outlook is likely to improve next year, as base effects come to the fore. We are selective buyers of interest rate sensitive companies.

Market review
The domestic inflation outlook has deteriorated over the quarter. Rising yields globally and domestic inflation concerns resulted in the local government debt curve increasing sharply. Over the quarter the benchmark R153 and R157 peaked at 9.15% and 8.58% respectively. The All Bond Index lost 1.7% over the three months ended June. We expect CPIX inflation to remain firmly above the targeted inflation band until year-end. This is likely to force the South African Reserve Bank (SARB) to tighten rates further. However, early signs of some moderation of consumption led growth, coupled with a potentially negative impact of the recently implemented National Credit Act are likely to moderate the SARB's stance on the extent of further tightening. Rising bond yields and deteriorating inflation expectations put pressure on domestic listed property. The sector was up marginally over the quarter (0.3%) but remains firmly in the black year to date at 16.1%.

After a strong first quarter, domestic equity market returns moderated slightly over the past three months. The FTSE/JSE Index gained 4.3% since the end of March. The market was driven higher by general mining (up 12.5%), oil and gas (up 9.9%), construction (up 9.9%) and life insurance (up 6.9%). Interest rate sensitive counters, in particular banks were down 6.9% and retailers lost 6.7%. This reminded investors of a similar occurrence last year, when diminishing global risk appetite coupled with higher domestic borrowing costs, caused a massive sell-off in domestic oriented sectors.

We remain positive, yet cautious, on our equity outlook over the next few quarters. Increasing volatility and fluctuations in sentiment should not deflect from a global and domestic backdrop that remains supportive of continued earnings growth and above average equity ratings.

Fund performance
The Investec Equity Fund gained back some of the underperformance incurred in the first quarter. The fund returned 3.5% over the three months ended June, outperforming the peer group. Our overweight position in resource shares added value. The fund's underweight bet in property finally paid off as SA listed property returned 0.3% over the quarter. We had overweight positions in food retailers and had an underweight positioning in the clothing retailers, which struggled due to their debtors book and rising interest rates. The fund was broadly neutral banks. While the macroeconomics do not favour banks at the moment with rising inflation and interest rates, they are cheap and earnings revisions are still favourable. Hence we believe this position is justified.

Our best returns came from Kumba Iron Ore, BHP Billiton and Sappi, while exposure to Foschini and not holding Sanlam detracted from the performance. At this point in time we favour Old Mutual over Sanlam from both a valuation as well as a growth perspective. Although Foschini may struggle in the short term due to earnings revisions, we believe it offers exceptional value. Billiton and Kumba continue to receive good upgrades and we remain firm holders. With respect to Sappi, the global paper market is tightening and we expect upgrades to start coming forth.

Portfolio activity
The fund remained overweight resource counters over the quarter, although we did lighten our gold exposure and increase our weighting in Sasol. We increased our exposure to industrial shares at the expense of financials where we added SA Breweries and sold Liberty International.

After a considerable period of underperformance SAB was added to the portfolio. Earnings revisions are now positive and the valuation is attractive relative to its international peer group. This share is substantially underweighted in the local market. We also bought more Aveng over the quarter on the back of consistent positive earnings revisions as a result of strong infrastructure spending. The fixed investment shares are also sheltered from the impact of rising interest rates.

We reduced our holding in gold shares as well as much loved platinum counters. The gold shares score very badly in terms of earnings revisions and with rising labour costs this is unlikely, in our view, to reverse in the medium term. We thus took profits on some of our holdings. Our substantial overweight position in platinum counters was also trimmed back due to concerns about Impala Platinum's near term earnings outlook. We reduced our exposure to Richemont, where we have had a large overweight position. The counter has started to perform better, and we took this opportunity to take some profits and reduce the holding slightly.

Market outlook and portfolio positioning
Global demand remains firm despite the slowdown in the US housing sector. Indeed, the sell off in the US bond market over the quarter is testament to this. Locally, we need to see inflation return to the target range of 3% - 6%. We have long felt that inflation is a concern locally and that the market was taking to benevolent a view on inflation and we remain concerned.

Within our equity selection we will continue to focus on those counters receiving earnings upgrades. This leads to our current overweight positions in mining houses and fixed expenditure related shares. The equity market has returned 36.9% over the last twelve months and the investment environment is likely to become more challenging. The price earnings ratio on the JSE is 16 times which is not excessive. However, emerging market valuations are not attractive relative to developed markets. The return on equity is now the same, but is declining in the case of emerging markets and rising for developed markets. Price to book ratios are slightly higher for emerging markets. We believe that excess returns now lie in the developed markets, by and large.

The biggest risk to the portfolio will be if the South African local shares outperform their emerging and developed market counterparts. This would probably happen if the inflation rate surprised substantially on the downside. We remain overweight resource counters, which should be beneficiaries of firm global demand, are reasonably valued and have positive earnings revisions. The fund is underweight local consumer shares, particularly those companies running debtors books, where we feel the consumer could surprise on the downside. We remain overweight oil shares, which are out of favour but where the revisions are starting to come through and valuations are supportive.

Market review
Equity markets were volatile over the first quarter. During January and most of February equities were stronger. However, concern over the US housing market and the deterioration in the macro-economic backdrop put global stocks under pressure. By mid March most markets were 5% to 10% down from their earlier highs but by month end, equity markets had bounced back. The MSCI World Index gained 2.6 %( in US dollar terms) over the quarter. Local equities continued to reach new highs over the first two months of the year. However, the JSE saw heightened volatility in March. Local equities declined very sharply but as global risk aversion eased, stocks recovered strongly. The FTSE/JSE All Share Index gained 10.4% over the quarter and the 12 month return was 37.6%. For the quarter, resources were up 15.2%, financials 6.5% and industrials 5.6%. Cash (as measured by the STeFi index) earned a return of 2.1% over the quarter, against the All Bond Index return of 1.6%. The rand weakened by 4.1% against the US dollar and 4.6% against the euro over this period.

Fund performance
The first quarter was a tale of two halves, with the Investec Equity Fund struggling somewhat, but regaining some lost ground in the last six weeks of the quarter. For the three months ended 31 March 2007 the fund earned a return of 8.1%. Our performance was helped by our overweight position in the resource sector. The fund's heavy weighting in platinum helped, and our holdings in the general mining sector also contributed positively. Banks outperformed over the quarter and we had a neutral weighting in this sector. We could have earned more but we are concerned that regulatory risk could be on the increase. Our underweight position in oil and gas for a large part of the quarter also contributed to performance. The overweight position in non commodity offshore earners hurt us as emerging markets yet again outperformed their developed market peers. Major stock contributors were Kumba Iron Ore, Amplats and Billiton. The obvious common theme behind this is exposure to commodity prices, where despite the collapse of the US housing market, the strength of China managed to boost prices. Major detractors from performance were Harmony, Richemont and Sappi. The latter stock is the one that worries us least as upgrades are starting to come through on the back of a firmer pricing outlook in the United States. Richemont is attractively priced and we expect that the severe underperformance against the market should reverse soon. The rand is struggling against the euro and the pound, and not gaining ground versus a very weak dollar. Harmony remains a play on a rising rand gold price. The rand gold price is indeed increasing and despite poor cost control at these levels earnings must start to be positively impacted.

Portfolio activity
During the quarter we added marginally to our banks weighting. We like bank shares in terms of valuation and earnings revisions, but we are slightly wary due to legislative risk. Our view is also that bond yields will struggle from here, with inflation forecast to remain at the top of the target band, and banks typically prefer declining bond yields. We added to Anglo American during the quarter. Whilst our preferred holding in the mining sector is Billiton we feel that Anglos has its own merits even though it is not as attractively priced as Billiton. We concede there is a chance that there could be a bid for Anglo American. However, in our view this is not necessary for the stock to outperform. The perception that a bid could arise, will lead the new Anglo management to take the necessary steps in terms of costcutting and restructuring, which will drive the share price. We lightened our Remgro weighting during the quarter as the discount to net asset value narrowed. Our Lonmin holding were trimmed in favour of Amplats as earnings revisions in the latter were accelerating, whilst Lonmin was plagued with production problems. We sold out of Barloworld as we believed that most of the benefits of unbundling the company were reflected in the price. Our sale of Naspers was triggered by valuation and earnings concerns on their listed subsidiary Tencent. They subsequently announced a rights issue for unspecified future acquisitions. Our view is that this is simply the company taking capital from the market at a price which is cheap for them and we prefer to remain on the sidelines for now. We have also sold out of our MTN holding due to a sharp rerating of the counter over the last six months.

Market outlook
We believe that large cap shares around the world are priced too cheaply relative to their small and mid cap counterparts. The JSE is no exception. We look for firm commodity prices to drive the large cap shares and for mining counters to continue to do well. Our view is that the risk to the currency lies on the weaker side, as a high amount of funding is necessary to cover the current account deficit. We believe the rand has been very weak given the level of precious metal prices. The oil price at close to 70 US dollars per barrel is currently not causing much concern to equity markets globally but this could change. In addition, rising food price inflation globally could trigger a sell-off in risk assets. We also feel that oil shares are not reflecting the current oil price and that there could be an opportunity in this regard. We added to our Sasol weighting recently. The largest risk to the portfolio from a macro-economic perspective is a very strong rand. To the extent that this reflects firm commodity prices we have some protection. Unexpected upside surprises in inflation globally will impact on the portfolio negatively. Our largest risk in relative performance terms lies in the locally listed global plays continuing to underperform. The emerging market bull favours small and mid caps. We are long large cap shares and resource counters. Our non resource rand hedge holdings give us protection against a weaker rand.

Market Highlights
December was once again a strong month on the JSE banks lead the charge with a 9.5% return. We added to our banks exposure. Whilst our lower weighting hurt in December, we believe that a switch out of resources and into financials could well last over the medium term. We were consequently buyers of Standard Bank and First Rand during the period. Despite our view that the rand will trade weaker, banking shares could perform better as they should generate above market earnings growth on below market ratings this year. There is less earnings downgrade risk in the banking sector than in the resource sector.
Basic materials were flat during the month. We have a low exposure to copper through minimal weightings in Anglo American and Billiton. We do however have exposure to gold and platinum as we feel it is only prudent in the face of weakening commodity prices to have some protection against a fall in the currency.

Emerging markets, in general, had a very strong month, with the Chinese market, for instance, returning 45% over the last two months. This level of exuberance is of concern to us and we remain cautious on the S.A. market.

Outlook
2007 could well prove to be trickier for the markets than the proceeding three years. Having said that we still believe that equities will provide a real return, albeit non spectacular. We believe that non commodity rand hedge shares could do well as well as counters likely to benefit from firmer pricing such as the food retailers.

Strategy
We have added to our banks and position in food retailers, whilst trimming some shares that have performed well. We took profits in both Naspers and Barloworld. We are overweight non resource rand hedges as we fell this is prudent in the face of emerging market exuberance and nervous commodity prices.