Global equities declined during the second quarter after reaching a peak in late April, as investor fears mounted over Europe's escalating fiscal troubles and a potential slowdown in the world's economic recovery. Heightened anxiety in the financial markets saw the MSCI World Index finish the quarter 12.7% lower in US dollar terms. No region or sector was spared the flight from risk. Industrial stocks were hardest hit due to concern that a relapse into recession might undermine demand. Financials were seen as potential victims of a double-dip recession and regulatory reform. Weak stock selection in both sectors hurt relative returns, and our portfolios underperformed the benchmark during the quarter and year to date.

Markets were extremely volatile as investors reacted to the concerns that sovereign-debt problems in Europe might spread and undermine economic growth in other economies. This was accompanied by a host of other new uncertainties: from the oil spill in the Gulf of Mexico to signs of a softening in US consumer confidence. Stocks fell in both developed and emerging markets, and credit spreads widened. But while risk aversion increased, it remains far below the levels seen during the recent financial crisis. For example, interbank lending rates are still in line with pre-crisis historical norms.

The return of risk aversion and the recent spate of negative headlines have sparked concerns regarding the sustainability of the global economic recovery and, for many observers, have revived memories of the dramatic 2008 crisis. But there are several important differences between the recent crisis and the state of the world economy today. In late 2008, major industrialised economies were contracting; corporate earnings were weakening and the banking system was in crisis. Today the global economy appears to be on the mend, non-financial corporate balance sheets are in great shape and banks are rebuilding their capital. Leading economic indicators continue to show significant improvements in global economic conditions.

Emerging market economies are leading the recovery, thanks to booming domestic demand. Within the developed world, the euro-area recovery is lagging, as fiscal austerity measures in Greece and other high-deficit nations challenge economic growth. But not all Europe is in the same boat, core euro-area countries such as Germany are recovering steadily thanks to a weaker euro and historically low interest rates.

Global equities declined during the second quarter after reaching a peak in late April, as investor fears mounted over Europe's escalating fiscal troubles and a potential slowdown in the world's economic recovery. Heightened anxiety in the financial markets saw the MSCI World Index finish the quarter 12.7% lower in US dollar terms. No region or sector was spared the flight from risk. Industrial stocks were hardest hit due to concern that a relapse into recession might undermine demand. Financials were seen as potential victims of a double-dip recession and regulatory reform. Weak stock selection in both sectors hurt relative returns, and our portfolios underperformed the benchmark during the quarter andyear to date.

Markets were extremely volatile as investors reacted to the concerns that sovereign-debt problems in Europe might spread and undermine economic growth in other economies. This was accompanied by a host of other new uncertainties: from the oil spill in the Gulf of Mexico to signs of a softening in US consumer confidence. Stocks fell in both developed and emerging markets, and credit spreads widened. But while risk aversion increased, it remains far below the levels seen during the recent financial crisis. For example, interbank lending rates are still in line with pre-crisis historical norms.

The return of risk aversion and the recent spate of negative headlines have sparked concerns regarding the sustainability of theglobal economic recovery and, for many observers, have revived memories of the dramatic 2008 crisis. But there are several important differencesbetween the recent crisis and the state of the world economy today. In late 2008, major industrialised economies were contracting; corporate earnings were weakening and the banking system was in crisis. Today the global economy appears to be on the mend, non-financial corporate balance sheetsare in great shape and banks are rebuilding their capital. Leading economic indicators continue to show significant improvements in globaleconomic conditions.

Emerging market economies are leading the recovery, thanks to booming domestic demand. Within the developed world, the euro-arearecovery is lagging, as fiscal austerity measures in Greece and other high-deficit nations challenge economic growth. But not all Europe is in the same boat, core euro-area countries such as Germany are recovering steadily thanks to a weaker euro and historically low interest rates.

All performance figures are quoted in US dollar terms unless stated otherwise.

Financial markets made fitful progress during the first quarter, as credit spreads narrowed further and stocks recovered from January's steep decline to end the quarter higher in most developed markets. Investors gained confidence from increasing signs that the global economic recovery was continuing to gain momentum, although concerns lingered about the sustainability of the recovery and the likely impact on the global economy of soaring public debt levels The MSCI World advanced 3 24% in total dollar-based returns for the quarter levels. 3.24% dollar quarter.

The quarter itself was a tale of two halves: after an initial rally at the start of the year, the market sold off from mid-January to mid-February, and then rallied strongly, recovering earlier losses and moving to new recent highs. On a monthly basis, the market fell by more than 4% in January, rose by almost 1.5% in February and by over 6% in March. The market's concern in the first part of the quarter related primarily to sovereign risk issues, particularly in Greece. These fears were not limited to Greece, but extended to Portugal, Spain, Ireland, Italy and the UK. Other market concerns were on the strength and sustainability of the economic recovery, while the possible threat from inflation appeared to have attracted less attention from the middle of the quarter.

At a regional level, Japan was the best performing market, rallying over 8%, while the North America market increased by more than 5% and the Pacific excluding Japan region rose just over 3% while Europe was the laggard falling1 8% The best performing developed market was Finland 3%, falling1.8%. Finland, which rose nearly 12%; driven by Nokia's almost 30% rise during the period. Denmark was the next best performing market, rising by slightly less than 10%, while Japan was the third best performance. Sweden returned over 7.5% and Canada nearly 6%, while the US delivered 5.3% during the quarter. Meanwhile, countries that were subject to sovereign risk fears included Spain (about -15%), Greece (more than-13%), Portugal (over -10%) and Italy (more than -7%).

[1] All performance figures are quoted in US dollar terms unless stated otherwise.

Equity markets extended their rally for a third straight quarter at the close of 2009. During the final three months of the year, the MSCI World Index rose by 4% in US dollars, while the MSCI Emerging Markets Index rose by 8%.

The global economic recovery broadened in late 2009, as evidence emerged that the US and the Euro area had returned to positive growth and most of Asia-including China, India, Singapore, South Korea and Taiwan-posting double-digit gains during the fourth quarter.

Companies have focused strongly on reducing costs over this period, with initiatives to reduce capital expenditure, raise productivity and keep inventories at historically low levels. This trend was the main reason for the better-than-expected earnings figures reported during the fourth quarter of 2009. Most of the pleasant surprises came from lower-than-expected costs, rather than higher sales. In the financial sector, balance sheets and capital ratios were generally stronger, but the process of reducing leverage still has further to run.

Corporate earnings are expected to be strong on a year-on-year basis during the first quarter of 2010, given the economic weakness a year ago. However, as 2010 progresses earnings comparisons are going to be tougher to beat given the stimulus packages implemented and corporate cost cutting that took place during 2009. Consequently year-on-year corporate earnings comparisons later in 2010 are likely to look significantly less favourable than those in the first quarter of 2010. However, the hope is that top-line growth will lead to a continuation in the rise in corporate earnings throughout 2010.

All performance figures are quoted in US dollar terms unless stated otherwise.