Markets grinded up steadily through the quarter despite US Q1 real GDP ultimately being revised down to -2.9%; positive US retail sales, manufacturing and employment data reassured investors that the Q1 GDP weakness was temporary in nature. The theme remained broadly recovering global growth. Valuations remain on the expensive side, with earnings delivery required to avoid market disappointment. Looking at SA, the Kagiso PMI index reflected a further contraction in local manufacturing. Disappointingly, S&P downgraded our sovereign credit rating to BBB-, one notch above junk status, on its expectation of lacklustre GDP growth against a backdrop of a high current account deficit, rising government debt, and the potential volatility and cost of external financing. The SARB kept interest rates on hold against the backdrop of weak domestic demand. On a positive note, the five-month platinum strike finally came to an end late in the quarter.

Against this backdrop, the All Share Index was up strongly (+7.2%), aided by Industrials (+9.1%) and Financials (+7.8%), but with Resources lagging (+2.9%) after a strong Q1. Property was up solidly (+4.4%) with bond yields coming off slightly; bonds were up (+2.5%) on foreign inflows. The short end of the curve was slightly behind with income returning 1.8% and cash returning 1.4%. Global equities were up in $ terms (+4.8%) with global bonds behind (+2.5%); both performed slightly better in rand terms (+5.8% and +3.5% respectively) aided by rand weakness.

Coronation and Prescient were the best performing managers for the last twelve months with their aggressive asset allocation towards equities paying off; Prescient's stock selection also came through nicely. ABSA lagged, being hurt by their allocation to property and inflation linked bonds (with interest rate sensitive assets struggling in the face of rising bond yields). Our foreign exposure (around 15%) benefitted from rand weakness and foreign equities' strong performance. The Fund has surpassed our expectations over the past twelve months, producing an outperformance of 7.5% relative to inflation (CPI) - well ahead of its performance target of CPI+5% despite the recent jump in inflation. We have been surprised by the seemingly endless upward march of SA equities.

Looking ahead, we believe it will be challenging for the Fund to achieve its performance target of CPI+5%, with equity valuations stretched and a potential shift in the longer-term direction of bond yields.

Markets initially struggled on reduced support from US monetary policy and political tensions in the Ukraine. But the quarter ended strongly as investors focused on broadly recovering global growth, with the weather-related slowdown generally expected to be temporary in nature. We do however caution that with valuations stretched, earnings delivery is required to avoid market disappointment.

China was in focus with its central bank taking steps to reign in credit expansion to clamp down on speculation, and with a contraction in its manufacturing sector. The SARB raised the repo rate by 50bps in response to a weaker rand; the general expectation is for a shallow hiking cycle against a backdrop of weak domestic demand. Interestingly, SA banks rallied as the outlook for stock gains in Russia and Turkey soured on political concerns.

While SA is currently seen as one of the least ugly emerging markets, we caution that a sovereign credit downgrade post the elections is a risk. Against this backdrop, the All Share Index was up strongly (+4.3%), aided by Resources (+10.6%) and Financials (+6.1%), but with Industrials flat (+0.8%) - Resources finally came to the party on earnings growth (albeit it off a low base) and as commodity prices firmed despite slower Chinese growth. Property was up slightly (+1.8%); bonds were flat (+0.9%) on continued large foreign outflows. The short end of the curve underperformed with income only returning 0.7%. Cash returned 1.3%. Global equities were up slightly in $ terms (+1.3%) with global bonds outperforming (+2.4%); both performed slightly better in rand terms (+1.8% and +2.9% respectively) aided by rand weakness.

The Fund has performed fairly well over the past twelve months, producing an outperformance of 4.5% relative to inflation (CPI) - slightly behind its performance target of CPI+5% largely due to a jump in inflation. We caution that this fund is in a category with a mixed bag of peers and not too much can be read from peer relative performance. Coronation was the best performing manager for the last twelve months with their aggressive asset allocation towards equities paying off. Prescient was the next best performing manager, participating nicely in the stock market rally over the past 12 months with their high equity exposure, as well as good stock selection. ABSA struggled, being hurt by their allocation to property and inflation linked bonds. Our foreign exposure (around 15%) benefitted from rand weakness and foreign equities' strong performance.

We took the opportunity to increase our exposure to ABSA during the quarter in order to increase our exposure to interest-rate sensitive assets. This move was largely at the expense of Coronation as we wanted to trim the fund's equity exposure on our view that local equity valuations remain stretched.