Market overview
Worries about the health of the financial system depressed equity markets throughout the quarter. Events unfolded rapidly through the period, starting with the bail-out of Fannie & Freddie & the spectacular collapse of Lehman Brothers, which was subsequently followed by the collapse (and rescue) of other financial institutions. Conversely bonds experienced strong inflows during the period under review as markets came to the realisation that the global economy would see a slowdown & inflation pressures waned.

Fund review
The Fund performed in line with benchmark. On the upside asset allocation contributed marginally to returns; however selection detracted. In this regard our overweight exposure to emerging markets & growth tilt (Value -13% vs. Growth -17%) did not add value. The fund remains in the top half relative to peers & is also ahead of benchmark over 3 & 5 years.

Looking forward
The continuing slowdown will probably weigh on equities. Consensus earnings expectations remain too high & there will need to be downward revisions. A more positive impact can be expected from valuation & technical indicators - equities are certainly cheap according to many indicators, but the uncertainty of future earnings demands caution at this stage of the cycle. Bonds should perform well in the current macro environment as growth slows & inflation falls. On a valuation front, sovereign bonds are somewhat expensive, while technical indicators are also negative following the recent rally. In terms of corporate credit (where we recently went overweight) tightening credit conditions will probably remain as a result of increasing balance sheet constraints in the banking sector. However, we believe the spreads offered on investment grade debt look attractive.

In dollar terms global equities declined 8.2% in June as investors concerns over the continuing credit crunch & ongoing weakness in real estate prices were compounded by the realisation that accelerating inflation is likely to prevent any significant further monetary easing. Financial stocks remained the weakest performers, though joined this month by consumer cyclical shares such as retailers & autos. Global bonds were the beneficiaries of risk aversion with the JP Morgan GBI gaining 0.5% during the period under review. It's worth noting the inflation concerns mentioned above undermined this asset class over the quarter with the index falling 4.4%. In rand terms the portfolio declined 5% in Q2, which was 80bpts ahead of benchmark. Absolute returns were negatively impacted by the currency rebounding 4.4% against the greenback following the massive sell off at the beginning of the year (it remains the worst performing primary currency in the world YTD). Asset allocation contributed marginally to returns; however the biggest driver was selection. In this regard the equity, bond, property & cash composites all outperformed their respective indices. The fund is ahead of benchmark over 1 & 3 years & remains the top half of its sector over all periods. We expect equities to remain under pressure as analysts will probably continue downgrading earnings aggressively. The market will only bottom when revisions moderate & our view is they are likely to accelerate to 1990/2001levels. Now is not the time to sell though as irrespective of risk episodes the general pattern is the same - by the time you enter panic the worst is over & the subsequent recovery in equities is substantial. There is also a good probability of a counter trend rally in the short term as the market is looking oversold, with most tactical indicators confirming this.

Q4 was characterised by increased volatility as a result of weak US housing data, poor credit markets & questions surrounding the health of consumer spending. Fortunately the 2.4% US$ decline of the MSCI was not enough to erase the gains made earlier in the year, resulting in global equities ending up 9.6%. Due to the abstract nature of the credit crisis & lack of visibility into large financial institutions balance sheets, we positioned the portfolio closer to benchmark by decreasing our underweight position in bonds at the beginning of the quarter. This was fortunate as global fixed interest markets (USD +4%) delivered significant returns thanks to the sub-prime contagion & associated credit crunch propelling flows into the safe haven of government bonds. The portfolio outperformed its benchmark during the period under review & can largely be attributed to our overweight position in growth stocks (Value -4.8% vs. Growth -0.2). It's now ahead of benchmark over 1, 3 & 5 years & consistently in the top half over all the aforementioned periods. As we enter 2008 investor sentiment will be driven by uncertainty as to whether the US will go into a fully blown recession or a cyclical slowdown. Furthermore will the slowdown be localised or spread to the wider global economy. We are of the opinion the US will experience a significant slowdown, albeit a short one. While we acknowledge the emergence of Sovereign Wealth Funds, potential multiple expansion, attractive valuations & rising liquidity are all bullish scenario's for equities, the emergence of a recession undermines all the above. In this regard we believe the Fed is behind the curve. Its inversion last year is a warning of a potential recession, while the unemployment rate has risen 60 basis points from the cycle low (at no time in the last 70 years has the aforementioned not been followed by the economy slipping into recession). Earnings are being revised down & it's important to note multiple expansion requires lower inflation & stronger growth - not our base case. Equities have historically also only done well following a rate cut when the economy & earnings are better & we think neither will materialise. As such we recommend caution & have adjusted the asset allocation accordingly.