The fund returned 1.08% and 9.25% for the quarter and year respectively. In comparison, the benchmark (CPI plus 2% p.a. over a 12-month rolling period) returned 1.56% and 6.32%. Over a rolling 1-year period, the fund exceeded the benchmark return by 2.93%.

For the quarter, the fund outperformed the All Bond Index (ALBI) which returned 0.78%. The fund kept duration unchanged over the quarter at 2.78 years versus the ALBI’s duration which decreased by 6bps to 7.06 years. The running yield of the fund was increased to 10.10% from 9.85% over the quarter as the domestic outlook deteriorated within an otherwise bond supportive global environment. The ALBI’s running yield as at quarter end was 9.13%.

Cash was the top-performing asset class in South Africa for the quarter at 1.83%, followed by bonds (All Bond Total Return Index) at 0.78% and Inflation-linked bonds (CILI Index) at 0.25%. Equities (ALSI Total Return) lost -4.57% and Property lost -4.44%. Over a rolling 12-month basis, Bonds were the top performer (+11.48%) followed by Cash (+7.38%), with Property posting the lowest return of - 2.70%.

The US Fed lowered the policy rates by 25bps to a range of 1.75% to 2.00%. Seven Fed members voted for the 25bp cut, while three voted against it. The Fed cited uncertainty around the global outlook but offered few indications on the policy path going forward. The median ‘dot’ (projected FFTR) for 2019 reflected only two 25bps with policy rates on hold in 2020 and 2021.

In the recent risk-off environment, the US 10-year Treasury yield traded 36 bps lower (2.03% to 1.67%) at quarter end, while the Dollar Index strengthened significantly from 96.84 to 99.38, up 2.62% over the period. 3-Month USD Libor decreased materially to 2.10%, down 23 bps and 70 bps QTD and YTD respectively.

As was widely expected, the European Central Bank (ECB) cut the deposit rate by 10bps to -0.50%. The other key ECB interest rates remained unchanged at 0.00% (main refinancing rate) and 0.25% (marginal lending rate). In their forward guidance the ECB stated that ‘key ECB interest rates to remain at their present or lower levels until it has seen the inflation outlook robustly converge to a level sufficiently close to, but below, 2% within its projection horizon, and such convergence has been consistently reflected in underlying inflation dynamics’. It also stated that it expects QE to run until ‘shortly before it starts raising’ rates.
With the backdrop of this low policy rate outlook the German 10-year yield reached a record low rate of -0.74% in September 2019, closing the quarter at - 0.57%. The French 10-year yield also hit a record low of -0.45% in August 2019, closing the quarter at -0.27%.

The Bank of England (BOE) kept interest rates at 0.75% after a unanimous vote, however cautioned that further Brexit uncertainty and tariff wars could warrant a rate cut in the near future.

The Commodity Research Bureau (CRB) indices continued to weaken in 3Q19. The CRB Commodities Index returned -4.6% (-4.3% in the previous quarter), with the CRB Metals Index the biggest loser at -6.9% (-13.3% in 2Q19). The CRB Livestock Index returned -6.2% (previously -7.6%). An attack on a Saudi Arabian oil processing facility and its second-largest oil field pushed the price of Brent crude oil substantially higher when markets opened on the 16th of September. The price initially rose by over USD10 to above USD70 per barrel before falling to trade around USD66 per barrel. The attack affected c.5% of global oil supply. At quarter end, Brent traded at USD60.78, down -6.6% for the quarter. The rand price per barrel was flat for the quarter as the rand depreciated by 7.0% against the dollar, trading at ZAR923.86 per barrel (+0.68%). Platinum (+6.1%), palladium (+8.2%) and gold (+6.4%) performed strongly, with industrial copper losing (-4.1%).

In the global credit space, the Markit iBoxx USD Liquid High Yield Index gained 0.83% over the period. The VIX Index, which measures risk sentiment, traded slightly higher at the end of the quarter at 16.24 from 14.06. The J.P. Morgan Emerging Market Bond Spread traded slightly higher at 863.81 at quarter end (up 0.90%).

The JPM EMBI spread closed the quarter at 399.59 (up 2.90 bps). South Africa’s 5-year Credit Default Swap spread widened by 30bps to 193.43 bps whilst its Emerging Market peers’ spreads tightened. Russia’s spread traded at 85.94 (24 bps lower), followed by Turkey at 357.98 (-13 bps) and Brazil at 136.54 (-11 bps).

Over the quarter, the rand depreciated against most of the major currencies, including the British pound (-4.1%), the Australian dollar (-3.8%), the US dollar (- 7.0%), the Euro (-3.3%) and the Japanese yen (-7.4%).

The South African Reserve Bank (SARB) held the repo rate at 6.50% at the September MPC meeting. The decision was supported by continued concerns around fiscal risks, as well as heightened trade and geopolitical risks. The inflation outlook was revised downwards to 4.20% for 2019, kept stable at 5.10% in 2020 and revised upwards to 4.70% in 2021. The growth outlook for 2019 was unchanged at 0.60% but revised downwards for 2020 and 2021 to 1.50% (down by - 0.30%) and 1.80% (down by -0.20%) respectively. The SARB’s QPM projects no more cuts over the forecast period. Upside risks to inflation includes higher electricity, food and fuel prices. Headline inflation ticked up slightly in August to 4.30% from 4.00% in July, partly driven by a rise in the electricity and other fuel costs category, after Nersa’s recent hikes in electricity tariffs. Core inflation printed at 4.30%.

The trade balance in August exceeded consensus expectations at a surplus of R6.8bn (following a R3.7bn deficit in July). The upside emerged from stronger-thanexpected exports. Exports increased by R9.5bn m/m, led by higher mineral products (up R4.8bn m/m; usually coal products), a R1.6bn m/m increase in precious metals and stones and a R1bn m/m increase in machinery and electronics. Imports declined in August, supported by a R2.3bn m/m decrease in mineral product imports (mainly oil), as well as vehicle and transport equipment (R1.4bn m/m decrease). The trade data is expected to remain volatile give the significant swings in the exchange rate.

For the month of August, the budget deficit printed at R32.8bn, bringing the total deficit for the 2019/20 fiscal year to R189.4bn. The deficit increased by 44.2% compared to the same period last year. Expenditure growth has been outpacing revenue growth. Since the beginning of this fiscal year (April 2019), revenue has grown by 4.2% y/y to R509.7bn compared to expenditure growth at 12.6% y/y at R699.1bn - the strongest growth since the 2008 recession. The increase in government expenditure was mainly caused by the financial assistance extended to Eskom in April (R13.5bn) and SAA and Denel in August (R3.8bn). The budget deficit is expected to exceed 6.0% of GDP (versus 4.5% forecast by National Treasury in the 2019 Budget) and debt levels are expected to breach 60% of GDP (versus a 56.1% forecast).

The second quarter GDP grew by 3.1% q/q on a seasonally adjusted basis, better than the consensus estimate of 2.5%. Positive contributions came from all sectors, except Agriculture (-4.2%), Construction (-1.6%) and Transport (-0.3%), which in total subtracted 0.2% from the figure. General sentiment is however still weak amid growing concern about underwhelming pro-growth reform traction and an increasingly fragile global economy.

At quarter end, SA National Treasury increased the average maturity of its bond issuance to 16.30 years, now higher than the 15 September average maturity of 11.0 years. According to data from National Treasury, foreigners held 44.83% (R760bn) of nominal SAGBs as at August 2019, slightly lower than the July number of 45.49% (R759bn). Foreigners were net sellers of R2.6bn local bonds compared to August’s net sale of R19.7bn. The short end of the curve performed the best over the quarter, with the 1 to 3-year sector and 3 to 7-year sector returning 1.26% and 1.29% respectively. The 7 to 12-year sector returned 0.94% and the 12+ years sector returned 0.57%. The 7 to 12-years sector which includes the R186, R2030 and R213 was the top performer YTD and over 12 months, returning 9.50% and 12.60% respectively. Although the concern over negative domestic growth and fiscal sentiment remains, spreads were mostly unchanged at quarter-end: the R2030-R186 spread traded at 89bps from 86bps (+3bps), the R209-R186 spread decreased by 5bps to 128bps and the R2048-R186 spread tightened by 1bp to 160 bps.

The shift in the secondary credit bond market continued over the past three months as investors hunted for yield-enhancing assets both globally and locally. Significant oversubscriptions in public auctions of corporate debt has pushed primary market issuance spreads to the bottom-end of auction price guidance levels.

The fund returned 2.47% and 10.18% for the quarter and year respectively. In comparison, the benchmark (CPI plus 2% p.a. over a 12-month rolling period) returned 1.83% and 6.55%. Over a rolling 1-year period, the fund exceeded the benchmark return by 3.62%.

For the quarter, the fund underperformed against the All Bond Index (ALBI) which returned 3.70%. The fund decreased duration to 2.78 (vs ALBI duration of 7.01) from 2.92 years, while the running yield was increased to 9.85% from 8.82% over the quarter as the domestic outlook deteriorated within an otherwise bond supportive global environment.

All SA asset classes returned positive returns in the first two quarters of 2019. The top-performing asset class for the quarter was Property (+4.52%), followed by Equities (ALSI Total Return) at 3.92%, Bonds (All Bond Total Return Index) at 3.70%, Inflation-linked bonds (+2.76%) and Cash (+1.80%). Over a rolling 12-month basis, Bonds were the top performer (+11.48%), with Property posting the lowest return (+0.79%).

The US Fed announced an unchanged Fed Funds Rate on the 19th of June. The Fed now seems to be supporting market expectations of a July rate cut. The next FOMC meeting will be held on the 31st of July. Personal Consumption Expenditure (PCE) is now expected to print at 1.5% in 2019, previously estimated at 1.8%. Core PCE, the Fed's preferred measure of inflation, is also seen moderating to 1.8% in 2019, from 2.0% previously. The GDP forecast was left unchanged at 2.1% for 2019 and 2.0% for 2020.

In the recent risk-on environment, the US 10-year Treasury yield traded 40 bps lower (2.41% to 2.01%) at quarter end, while the Dollar Index weakened to 96.1, down 1.2% over the quarter. 3-Month USD Libor decreased materially to 2.32%, down 28 bps and 49 bps QTD and YTD respectively. The US curve remains negatively sloped, traditionally signalling imminent recessionary conditions.

As expected, the European Central Bank (ECB) kept policy rates unchanged. The growth outlook was revised upwards to 1.2% for 2019 and downwards to 1.4% for 2020 and 2021 respectively. Inflation is expected to remain below the bank's 2.0% target over the forecast horizon. Mario Draghi, President of the ECB, stated that an accommodative monetary policy remains necessary and that key policy rates will remain unchanged, until at least the first half of 2020 (previously end of 2019). He further signalled that the next policy rate move would more likely be down than up.

The German 10-year generic yield was down another 13bps, ending the month deeper in negative territory, at -0.33%, while the French 10-year yield was down 22bps, closing the month at -0.01% and slipping into the negative for a first time over the last year.

The Bank of England (BOE) unanimously voted to maintain the Bank rate at 0.75% at its June meeting. All members also voted to maintain the stock of gilts at GBP435bn and corporate bonds at GBP10bn. The MPC acknowledged that the perceived likelihood of a no-deal Brexit had risen. Rates are expected to remain unchanged this year.

Commodity returns were reversed during the second quarter of 2019. The CRB Commodities Index returned -4.3% (+4.2% in the previous quarter), with the CRB Metals Index as the biggest loser at -13.3% (up 8.0% in 1Q19). The CRB Livestock Index returned -7.6% (previously +8.9%). Brent crude oil traded at USD66.55 at quarter-end (down -2.7%). Oil jumped to a five-week high after Saudi and Russia signalled their support for an extension of OPEC+ output cuts couple with a USChina agreement to restart trade talks that improved the demand outlook. The rand price per barrel was ZAR943.72, down -4.4% over the quarter as the rand appreciated by 2.9% against the dollar. Palladium (+11.0%) and gold (+9.07%) performed strongly, with copper (-7.8%) and platinum (-1.7%) losing.

In the global credit space, the Markit iBoxx USD Liquid High Yield Index gained 1.54 % over the period. The VIX Index, which measures risk sentiment, traded slightly higher at the end of the quarter at 15.08 from 13.71.

On balance, Emerging Markets credit experienced a strong 2Q19. The J.P. Morgan Emerging Market Bond Spread was flat at 405 bps over the period. 5-Year Credit Default Spreads compressed, including South Africa (-17bps), Russia (-16bps), Brazil (-16bps), China (-13bps), Mexico (-11bps) and Turkey (-10bps).

Over the quarter, the rand appreciated against most of the major currencies, including the British pound (+5.4%), the Australian dollar (+3.9%), the US dollar (+2.86%), the Euro (+1.5%) and the Japanese yen (+0.15%).

SA headline inflation for May printed slightly higher at 4.5% (previously 4.4%), mainly due to the effect of higher food and non-alcoholic beverages (NAB) inflation. Food and NAB inflation rose to 3.2% y/y in May from 2.9% in April. Meat prices continued to normalise slowly, printing at -0.9% y/y (previously -1.2%). Fuel price inflation was down to 11.6% y/y (previously 12.0%). The base effects from the large fuel price hikes last year are strong enough to deliver lower year-on-year fuel inflation in the coming months. Core inflation remained unchanged at 4.1%. Headline inflation is expected to remain within the 3 - 6% target range.

The South African Reserve Bank (SARB) kept rates on hold at 6.75% as expected. Two MPC members preferred an interest rate cut, while three voted to keep the rate on hold. The QPM now projects one interest rate cut during 1Q20 (previously a hike in 4Q19). The inflation projection was decreased to 4.5% in 2019 (from 4.8%), 5.1% in 2020 (from 5.3%) and 4.6% in 2021 (from 4.7%). The growth expectations for 2019 was lowered to 1.0%, with 2020 and 2021 stable at 1.8% and 2.0% respectively. The probability of an interest rate cut over the next 12 months has consequently increased meaningfully.

S&P kept SA's local and foreign currency rating at sub-investment grade and maintained the outlook as stable on the 24th of May. The agency however stated that "overall reform efforts are likely to be lacklustre and unlikely to be significant enough to drive strong GDP growth." This announcement was shortly followed by the news that Eskom's CEO Phakamani Hadebe has resigned, citing health reasons, as investors await the announcement of a balance sheet restructuring and the release of the FY18/19 financial results.

The SA trade balance surprised to the upside by posting a surplus of R1.7bn (from R3.5bn deficit in April), better than consensus of R0.7bn. The surplus was driven by an increase in exports, specifically metals and stones, machinery and electronics, and chemicals. The deterioration in the SA budget partially reversed as the budget deficit shrank to -R17.5bn from -R63.5bn in April. Despite the uptick in the figure, the underlying detail is still concerning: total revenue collection YTD was 12.17% of February Budget estimates, compared to 12.20% the previous year. Total expenditure incurred YTD was 15.20%, compared to just 14.40% the previous year. Financially distressed SOEs will continue to put pressure on the budget, holding fiscal expenditure at elevated levels.

The first quarter GDP contracted 3.2% q/q (consensus expected -1.6% q/q) seasonally adjusted and annualised, from 1.4% q/q in 4Q18, due to a surprising decline in the agricultural output (-13.2%) as well as a broad-based weakness in the economy. Most of the weakness is believed to be from power cuts in the first quarter. Consensus and the World Bank's 2019 growth forecast for SA is at 1.1%.

In the SA bond market, non-residents remained large net sellers of R16.7bn of local bonds - far exceeding May's R8.0bn outflow. The R186 yield decreased by 51bps to 8.08% over the quarter, the longer-dated R209 yield by 12bps to 9.41% and the ultra-long R2048 yield by 1bp only to 9.70%. The curve bear steepened over the quarter on the expectation of a short-term rates' decrease in the near term. Domestic negative growth and fiscal sentiment and expected bond over-supply drove the long dated R2030-R186 spread higher to 74bps from 56bps (+19bps), the R209-R186 spread to 133bps from 93bps (+39bps) and the R2048-R186 spread to a record-high spread of 161 bps (50bps wider from 112bps).

On a rolling one-year basis, the fund aims to exceed a benchmark of CPI +2.0% and the target total return of the South African All Bond Index.