Market review
The focus remained very much on Europe during the quarter, with a pro-European Union Greek election outcome and some positive developments at the umpteenth EU summit providing some relief to markets in June. This was preceded by a very volatile May where the focus was on Greece, Spanish banks' capital requirements and the unsustainably high Spanish sovereign bond yields. On the flipside, German Bunds and US Treasuries touched new lows as the markets priced in a high probability of the EU disintegrating. We've seen and heard all of this before and it has become quite clear that the current crisis won't disappear overnight. Uncertainty remains high given the very real challenges of high developed market debt levels; the lack of fiscal integration in the EU and a growing lack of market confidence. These types of markets do, however, create opportunities for patient long-term investors. The rand weakened during the quarter from R7.66 to R8.14 to the dollar, which is not too far from the R8.07 at the beginning of the year. The SA bond market again experienced significant offshore portfolio inflows, this time aided by the announcement that SA was included in the Citi World Government Bond Index (CWGBI). These massive inflows, and the subsequent compression in yields, saw SA five-year bonds touching multi-decade lows. The 10-year RSA bond yield decreased from 8.01% to 7.46%. For the quarter, the All Bond Index returned 5.2%, inflation-linked bonds 1.5%, while cash yielded 1.4%. Property stocks gained an incredible 10.3% during the quarter, with property yields following bond yields lower. Currently a premium is being paid for investments that have good visibility in earnings and a high future cash flow certainty.

What SIM did
We see the long-term fair value of the SA 10-year bond at above 8%. We ended the quarter below 7.5% and thus it should be no surprise that we reduced our nominal bond exposure during the period. The strength of our bond market definitely surprised us and we would obviously have preferred carrying a bigger bond holding going into the second quarter. What is of a concern, however, is that investors are now comfortable with earning a mere 2% real yield from long-term SA bonds. In our opinion that is too low given the inflation and country risk and the risk of experiencing capital losses going forward has increased significantly. It is, however, plausible that given the abnormal global macro conditions, investors might have to settle for lower real yields from fixed income investments for some time. The yield curve remains quite steep, with the gap between the R186 and the short-dated R157 about 190 basis points. We did see some curve flattening towards the end of the quarter. The longer-end of the yield curve shows relative value compared to the shorter end of the curve - but, as mentioned, the risk of capital loss in long duration assets has gone up. Although domestic credit spreads are not cheap, we continue to find select opportunities to enhance the yield of the Fund's money market assets.

SIM strategy
We maintain our view that the fixed income asset classes are not cheap from a long-term perspective. Investors are currently paying a premium for safety of capital and for investments that have a high certainty of delivering future cash-flows. These include listed property and nominal bonds. We will continue to include listed property and nominal bonds. We will continue to enhance yield (especially cash) in the current environment. From a relative valuation perspective, inflation-linked bonds are starting to look attractive versus nominal bonds. The general portfolio positioning remains defensive, with the aim of protecting investors against potential capital losses.

Market review
Investors gave a collective sigh of relief during a robust first quarter of 2012. Equity markets posted very good returns and markets generally seem to have stabilised somewhat, with market volatility definitely lower over the past few months. This was on the back of generally improved economic data from the US and perceptions that the European sovereign debt crisis was waning. The US 10-year Treasury bond weakened from 1.88% to 2.21% - a broad indicator of the return to a 'risk-on' market. However, the mountains of sovereign debt have not gone away and the austerity measures are still in place. It will be interesting to see how global economies, particularly in Europe, will fare for the rest of the year. On the domestic front, inflation continues to hover above the 6% level, while the rand made up some lost ground, closing the quarter at R7.66 to the dollar from R8.07 previously.

The SA bond market again experienced significant offshore portfolio inflows, which supported yields during January. During the quarter, the 10-year RSA bond yield decreased from 8.08% to 8.01%. The All Bond Index returned 2.4%, inflation-linked bonds 2.7%, while cash yielded 1.40% for the period. Inflation-linked bond yields declined again during the quarter, with the R197 ending the quarter at a yield of 1.97%. Property stocks gained an impressive 8.0% for the quarter. The global search for yield is still very much with us.

What SIM did
At the end of January, we took advantage of the opportunity to reduce our exposure to R186's (nominal bonds) at levels below 8.2% after foreigners made some aggressive domestic bond purchases in January. We did, however, get an opportunity late in the quarter to again add cautiously to our R186's at yields above 8.5%. The yield curve remains quite steep, with the gap between the R186 and the short-dated R157 at about 170basis points. We believe the longer-end of the yield curve shows relative value compared to the shorter end of the yield curve. We still have fairly low property exposure and plan to keep that unchanged for now. We don't see further capital gains in listed property for the remainder of the year. Investors will, however, receive a decent level of yield income. At current levels, we see ILB's as being marginally expensive. Most inflation-linked bonds are now trading at record low real yield levels. Money market yields were enhanced by the ongoing investment into longer-dated floating rate bank paper.

SIM strategy
As pointed out to investors last quarter, none of the fixed income asset class are cheap from a long-term perspective. We will continue to enhance yield (especially cash) in the current environment. The Fund's money market component is outperforming STEFI significantly and we should be able to maintain this for the rest of the year. From a valuation perspective, we prefer nominal bonds to inflation-linked bonds. As stated last quarter, property looks expensive relative to nominal bonds from a risk/return perspective. The general portfolio positioning remains defensive.

Market review
During 2011 asset managers must have sound like stuck records; words like austerity and default were used over and over again in conjunction with Europe and the developed markets. During the fourth quarter of 2011, we had much of the same - markets focused on the European sovereign debt woes while looking for possible quick fixes. This inevitably ended in disappointment. European policy makers have been behind the curve for much of the crisis. Let's hope they act more decisively and in unison in 2012.

Economic news out of the US improved with better than expected housing and employment data - a welcome development for generally battered global markets. On the domestic front, inflation, at 6.1%, is at the top of the inflation target range where it is likely to stay for much of 2012. After strengthening during 2010, the rand weakened significantly last year from R6.62 to the dollar to R8.06. We still expect the next move in the Repo rate to be upwards later in 2012.

Nominal bonds strengthened during the quarter, with further curve steepening taking place. The gap between the R186 and R157 widened from 98bps in December 2011 to 175bps by end of December 2011. Several factors contributed to the yield steepening trend experienced during the year and these included higher than expected longer-term inflation, anchored monetary policy (for now it seems) and the increased issuance of longerdated bonds by National Treasury. The All Bond Index returned +3.5% for the quarter, with inflation-linked bonds (ILBs) the best performing asset class at 4.5%. Cash returned 1.4% and property a respectable 3.7% for the quarter. ILB yields declined further during the quarter, with the R197 beginning at 2.45% and ending 2011 at 2.25%. For the year as a whole, ILBs were the best performing fixed interest asset class at 13.05%, with nominal bonds delivering 8.8% and cash 5.7%.

What SIM did
During the quarter, we cautiously added nominal bonds when yields exceeded 8.6% on the R186. Inflation remains a short-term concern, especially against the backdrop of a weakening rand. Market reaction to rising inflation saw inflation-linked bond yields decline to below 2.3% and we used this opportunity to reduce our inflation-linked bond exposure to the R197 and R210 in particular. At current levels, we see ILBs as being marginally expensive. Money market yields were enhanced by the ongoing investment in longer-dated floating rate bank paper. We started adding Hyprop to our property exposure. The fund's property exposure was largely unchanged from the previous quarter.

SIM Strategy
As in the third quarter, the overall portfolio remained fairly defensive, with lower exposure to property and nominal bonds compared to our typical longer-term asset allocation. Currently we prefer nominal bonds to ILBs from a long-term valuation perspective. From a risk/return consideration, property looks expensive compared to nominal bonds. None of the fixed interest asset classes are cheap from a long term perspective and thus we will maintain a well-diversified portfolio and will continue to maximise yield in the current environment.