The reserve bank hiked the repo rate to 11% at the December MPC meeting, a move that was largely priced in by the market. The decision was largely driven by a sharp increase in inflation expectations and a deterioration in the SARB's inflation forecast. The SARB expects (PIX inflation to remain above the upper level of the target range and to peak in lQ08 at an average of 7.4% before declining to the upper end of the target range in the last quarter of 2008. The sharp increase in inflation expectations poses a risk of higher wage settlements, which should concern the SARB. Despite 400b.p. worth of rate hikes since June 2006, inflationary pressures have continued to surge. CPI and CPIX accelerated to 8.4% and 7.9% respectively, well above market expectations. CPIX inflation continues to breach the SARB's 3%-6% inflation target for the eighth consecutive month. The main drivers of inflation were food, where increases are now running at 13.3% year on year and transport costs via the increase in the petrol price. PPI declined from 9.5% to 9.1%, which was below market consensus. This was mainly driven by agricultural products, where the increase slowed from 29.6% to 26.8, electrical machinery, which slowed from 12.4% to 6.4% and basic metals which moved from 5.1% to 1.8% year on year. This was offset by food and petroleum product, which accelerated from 17.5% to 18.6% and 12.85 to 16.2% year on year respectively. The current account deficit as a percentage of GDP now stands at 8.1%. This is above the estimate made in the MTBPS of 7.8% of GDP by 2010 (up from 6.5% in Q2 07) and should the balance between exports and imports not improve, it may put pressure on the rand and inflation. Money supply and credit growth continue to remain high at 23.18% and 22.57%. The above highlights a deteriorating inflation outlook, which has left rates vulnerable to upside pressure. The longer end of the yield curve continues to price in low inflation differentials which leaves very little margin for error should information flow be negative. Reflecting these risks, the portfolio duration is short, protecting capital and awaiting better investment opportunities. Credit exposure is conservative and we have only invested in quality issues offering attractive yield pick-up relative to its credit risk.