The High Yield Bond fund returned 1.7% for the month against the All Bond Index return of 1.8%. The Medium Term Budget Policy Statement of the Minister of Finance admitted that the 3-6% inflation target for next year would not be met. In addition, more realistic targets for 2003/2004 of 3%-6% were set instead of the 2%-5% of before. This will relieve pressure on the Reserve Bank who is tasked with keeping inflation within target ranges. Another rate hike from them therefore now seems less likely than before. Corporate spreads remained stable during the month. In response to this the yield curve, which had been becoming more and more inverse, has now flattened with especially the very long R186 bond weakening in the light of higher future inflation expectations. Investors have benefited from the Fund being underweight the R186. The duration of the Fund remains slightly short as the real return offered by long bonds, given expected inflation, remains too low.

The Fund returned 0.04% which was flat with the index return in September.

The repo rate increased by 100 bps in September with the prospect of a further rate increase in November becoming ever stronger. This has resulted in the yield curve inverting even further indicating that inflation is currently viewed as a short - term problem but that over the long-term, confidence is still fairly high that inflation targets will be met.

Corporate spreads in South Africa have contracted in defiance of the global situation where they have widened over the past month. This is an indication of the healthier economic outlook in South Africa.

Despite inflation concerns, GDP growth has continued to be steady and our currency has stabilized.

Furthermore retail sales are growing steadily, indicating that income and employment levels are on the increase.

The Fund returned -0.7% for the month as yields weakened in the face of poor PPI figures, which surged to their highest levels since 1989.

Inflation expectations are rising, with most economists raising their forecasts for 2003 and 2004. High wage settlements across the board and unexpectedly high increases in food prices are of concern. The prospect of another interest rate increase is therefore becoming ever more certain. The yield curve has inverted further along with expectations that inflation is a short-term issue and that the Reserve Bank might increase the repo rate. As a result we have lowered the modified duration of the Fund so that it is less sensitive to interest rate movements.

A high interest rate environment is usually unfavourable for corporate bonds as it negatively influences corporations' profitability. So far high yield spreads have been stable.

Consensus expectations believe inflation to be near its peak now. The rand's continued recovery has reduced inflation fears. Given that long bonds currently yield around 12% and considering the stated inflation target bands, a prospective real return of 6% over the medium term does not look unattractive. However concerns regarding emerging market contagion from South America, and more specifically Brazil, continue to plague sentiment towards emerging markets. So far we have weathered the Argentinean crises very well.

The inverted yield curve is a reflection of the belief that inflation is a short term concern. With long bond yields below shorter dated bond yields, it is evident that the market does indeed believe in the inflation target in the longer term. During the quarter long bond yields (the R153) declined from 13.20% to about 12% by the end of June, resulting in capital gains for the fund.

Several new corporate bonds were issues during the quarter. Those worth noting are the securitisation issues brought to the
market by FirstRand and two new bank issues, namely a Standard Bank tier 3 issue as well as an Imperial Bank tier 2 issue. The fund managers did not participate in the latter two but participated in the Wesbank securitisation issue (brought to the market by Firstrand).

The High Yield Bond Fund returned 8.93% for the quarter with the yield at quarter end at 11.89%.

The Fund returned 2.4% versus the All Bond Index which returned 2.3% for the month. The holding in the 7-12 year area was the major driver of this return.

As expected, published inflation figures continued to trend upwards. The peak in inflation is only expected towards the third quarter. However, relief is in sight with the rapid improvement in the value of the rand.The real GDP numbers released for the first quarter show that the economy is still growing at over 2% , even though short term interest rates are considerably higher than they were in the fourth quarter of 2001.

The yield curve remains very flat to slightly inverted at the longer end. The ultra-long dated R186 bond now yields considerably less than a money market investment.

The performance of corporate bonds was steady during May. The Harmony bond issue performed well thanks to their credit rating being upgraded from A- to A by Fitch-IBCA. Several new classes of bonds with different ratings were issued through the FRESCO securitisation of a portion of First National Bank's corporate loans.

With bond yields increasing as inflation effects are being felt, bonds are beginning to become cheap relative to equities. Furthermore, the improvement in economic data bodes well for corporate, or high yield, bonds. When the economy fares well, the prospects for corporate profits improve and the risk of default falls, so corporate bonds tend to fare better than sovereigns. When an economy is under strain, sovereign bonds tend to perform better as investors prefer their safe haven status. Therefore, a positive global outlook would be favourable for high-yield bonds.

The Fund returned 6.4% for the month, outperforming the All Bond Index return of 6.2%. Yields had been rising since the strong rand depreciation in December, but the R153 long bond yield strengthened by 1.1% from 13.20% to 12.09% during April. Even though inflation is rising it remains within expectations and with a strong rand, inflation could return more rapidly to the set target levels than previously thought. During the month the SA Government conducted a $1bn offshore issue of bonds. These bonds were issued at very favourable levels of approximately 2.4% above the equivalent US government bonds. The government intends to use the proceeds to reduce the net open rand-dollar forward position of the SA Reserve Bank, which remains a bone of contention. The yield curve flattened with the spread between the R153 and R150 narrowing from 50 basis points to 8 points at month end. The ultra long dated R186 government bond remained strong and an upcoming switch auction should increase its size considerably.

Corporate bond spreads have narrowed as there is more certainty regarding the banking sector resulting from the Nedcor bid for BOE. Both the BOE and African Bank bond spreads narrowed relative to the government bonds as a result.