MARKET REVIEW
The third quarter of 2009 was dominated by signs that the world economy is stabilising, with the focus shifting to the likely strength of the recovery. As expected, equity markets reacted positively to this news. Global yield curves remained steep, as shorter-dated rates have been kept low by central banks. In August, the SA Reserve Bank surprised the market by cutting the repo rate by a further 50 basis points to 7%. This decision was taken on the back of a stronger rand, better inflation outlook and weak domestic economy. Our bond market initially reacted positively to this news, which saw nominal bonds outperform all other fixed-interest asset classes for the quarter. The R157 government bond traded as low as 8.02% during the period, supported by the stronger rand and lower inflation. The bond market, however, is still concerned about government's increased funding requirements. For the quarter the All Bond Index returned 2.96%, cash 1.98% and inflation-linked bonds 1.44%. Property stocks delivered an impressive total return of 12.15% for the quarter.

WHAT SIM DID
During June and July we increased our nominal bond exposure at levels above 8.5% on the R157. The net effect was a 9.6% overall increase in bond exposure for the quarter funded from cash. The Fund's property exposure was also reduced slightly by 1.1%.

SIM STRATEGY
We will continue to look for attractive credit opportunities in the primary and secondary fixed-interest market. The short-dated inflation-linked bond (R189) looks expensive at 2.0%, while the longer-dated R197 is more attractive at 2.95%, so this would be our preferred stock in the inflation- linked bond market. We do see value in the bond market at levels above 8.5% on the R157, while property stocks look fairly priced at current levels.

Market review
The global recession loosened its grip slightly on world financial markets during the second quarter of 2009. Many economic indicators are pointing towards some economic stabilisation but not a full-blown recovery yet. Equity markets recovered strongly, while the US 10-year bond weakened by more than 0.5% on the back of increased risk appetite and a possible inflation threat down the line. On the domestic front, the Reserve Bank surprised many analysts by not cutting interest rates further in June. As a result, the SA yield curve flattened, with money-market rates drifting higher following the announcement. Although we saw the rand strengthen significantly over the quarter, the bond market weakened. Sticky inflation and the possibility of the government needing to raise additional funding due to a 2009 revenue shortfall weighted on the bond market. The R157 nominal bond yields traded 0.3% higher for the quarter, with the All Bond Index returning 0.29% during the period. Cash delivered 2.31% and inflation-linked bonds 3.41%. We again saw strong demand for the short-dated R189 inflationlinked bond, while the longer-dated R197 weakened by 0.19%. Property stock prices declined by 0.88% during the three-month period.

What SIM did
Although the R189 is expensive at a real yield of 2.2%, we added 0.6% inflation-linked credit exposure at real yields of more than 4%. We believe the current credit spreads in the primary credit market are offering value. Currently we have a more cautious outlook on property stocks, given the weakness in our economy. Against this backdrop, we reduced the Fund's property exposure by 1.9% to 6.6%. Nominal bonds are starting to look attractive at current levels and we'll be increasing our portfolio duration into market weakness.

The volatile markets that characterized the second half of 2008 continued during the first quarter of 2009, especially global equity markets. International short-term cash and long-bond rates remained at historic low levels on the back of aggressive monetary easing by central banks and continued global risk aversion. Domestic inflation continued its downward trend, albeit at a lower than expected rate. The government also announced a stimulatory budget in February 2009 that will increase the ratio of outstanding debt relative to South Africa's gross domestic product (GDP).

Despite the supporting factors, including lower inflation, the domestic bond market weakened during the quarter. Significantly lower inflation was already discounted in the bond market at the end of December 2008 and the weaker bias came as no surprise. The R157 nominal bond yield traded 0.96% higher for the quarter and thus the weaker bond market resulted in the All Bond Index returning -5.14% for the quarter. Cash returned 2.7% and inflationlinked bonds 2.42% for the first three months of the year. We saw strong demand for inflation-linked bonds in the latter half of the quarter. Property stocks returned -1.4% for the quarter.

During the first few weeks of the quarter, we continued decreasing the nominal bond exposure. Towards the latter part of the quarter, after a significant sell-off in the bond market, we again increased our bond exposure. The net effect over the quarter was a 3.6% increase in bond exposure. Some inflation-linked bonds were also purchased at attractive levels, increasing the fund's exposure by 1.9%. This was mainly funded by a 5% decrease in cash exposure and a 0.5% reduction in property exposure. The property exposure was decreased slightly due to the uncertainties surrounding vacancies in the sector for the next 12-18 months. Currently none of the asset classes we invest in are attractively priced relative to each other when taking the underlying risk into consideration. But volatile markets are sure to provide us with some attractive opportunities during the next quarter.

The Market review
What a year we had in 2008! The sub-prime and banking crisis and the resultant worldwide economic slowdown are now well documented, although we are still trying to deal with the aftermath. The fourth quarter of 2008 was characterised by sharp losses in equity markets and a flight to safe-haven assets like US treasury bills, which traded close to a 0% yield. The domestic inflation outlook for 2009 has improved significantly over the past few months; one of the major contributing factors being a significantly lower oil price. At long last we also saw interest rates being lowered in December, with more monetary easing expected well into 2009.
All of the above factors led to a very strong fixed-interest market in the last quarter of 2008. The R157 nominal bond traded 1.65% lower for the quarter after opening the quarter at 8.86% and closing at 7.21% on December 31. The All Bond Index returned 11.3% for the quarter and 17.0% for the year. For the quarter, cash returned 3.0% (11.7% for one year) and inflation-linked bonds 3.1% (13.6% for one year). Property stocks staged a strong recovery in the last quarter with a return of 8.5%, but were still down -4.5% for the year.

What SIM did
Over the quarter and especially towards the end of the three months, the nominal bond exposure was decreased by 13.1% to 19.4% and the proceeds invested in money-market instruments. We still see value in property stocks and increased our exposure by a further 2.6% over the quarter.

SIM strategy
Currently we are reducing our bond exposure further on market strength as we believe a lot of good news is priced into the nominal bond market. The SIM Active Income Fund again produced impressive returns for 2008. We remain focused on producing above-average returns at below-average risk.