Market review
Investors' faith in the ability of governments to engineer a soft landing for global financial markets was shaken this quarter with Europe and China experiencing acute volatility. A Drachmatic Greek tragedy unfolded at the end of the quarter when the small EU nation could not service its debt obligations to the IMF (it owes four times more than all previous overdue debts from borrowers combined) and opted for a referendum to decide whether to continue obeying the terms of the European Monetary Union. A resounding No vote has led to Greece teetering on the brink of insolvency, despite having debts which are half those that brought down Lehman Brothers in 2008. Yet this should not have been a surprise to students of economic history, as Greece has defaulted on its sovereign debt four times! The China A share roller coaster also saw some $2.8 trillion in value wiped off, with the sharp monthly decline rivaling the October 1987 S&P crash. The magnitude and speed of the sell-off reflects the fact that many retail investors had been buying stocks on margin which can lead to accentuated volatility on the up and on the down. In a quarter alone, some 35 million retail stockbroking accounts had been opened in China, reflecting the mass buying frenzy and cheap financing speculation. The problem with China is that retail momentum investors have now suffered severe margin calls and it could dent investor confidence until institutional investors come back in. Global bonds have fallen by over 6% over the past year - the worst performance in three decades! After hitting record lows, European sovereign yields experienced a sharp spike with the German ten-year Bund going from zero to 1%. The European bond jitters reverberated in our own capital markets with the SA 10-year sovereign yields selling off from 7% to 8.4% this year. The FTSE/JSE All Share Index hit fresh peaks above the 55 000 mark at the end of April but suffered a sharp reversal towards quarter-end to close slightly down for the quarter. All the above economic turmoil has also fed into weaker commodity prices, with the exception of oil, which was up by close of quarter. Resource stocks posted a third consecutive down quarter, with financial stocks also down over 2%. Local stocks continue to be impacted by SA specific issues, such as a potential gold industry strike, an investigation into foreign exchange trading by banks and draft regulation capping rates on unsecured loans, impacting both the broad financial services industry and the furniture sector.

What we did last quarter
The fund had a solid quarter, up over 1%, outperforming the FTSE/JSE All Share Index, which was down slightly. Despite the value investment style being out of favour, the fund continues to deliver a decent performance year to date, ranking in the top quartile of general equity funds. There are currently few opportunities in the market and the risk increasingly is to buy over-priced glamour stocks, which may lead to capital loss in the event of a market correction. We see value emerging in the resources sector, which has been out of favour due to the sharp slowdown in Chinese demand and concerns of potential oversupply of some of the key industrial metals. Over the past year, both Sasol and Anglo American are down close to 30% and we have increased exposure to these two blue chip mining stocks during the quarter. Despite being an aggressively concentrated portfolio with no offshore exposure, the fund withstood the downdraft in the equity markets relatively well during the quarter. This is due to stocks in the portfolio reflecting our value philosophy and avoiding over-exposure to stocks with high momentum.

What added to, and detracted from, performance
Naspers remains our largest holding, which delivered a positive return in the second quarter. The principal investment of Naspers is its stake in Chinese internet company Tencent. Tencent continues to make headway in China, growing new avenues in mobile offering a wide range of services which will enable them to monetize the services by means of targeted advertising. Tencent is growing its profits at over 60% per annum and this has fed through to the Naspers earnings, which grew almost 30% in the past year. While the continued volatility of the Chinese stock market has an impact on the price of Tencent, we have accounted for this in our valuation with a sufficient margin of safety. The fund was a relatively early investor in Naspers and this has delivered exceptional returns since it was included in the fund. Steinhoff International remains the fund's second largest holding, which was up close to 30% over the past year. Steinhoff acquired Pepkor to broaden its offering beyond furniture into clothing. The acquisition will place Steinhoff among the top 12 largest retailers in Europe just behind the UK's Marks & Spencer when it lists offshore later this year. This will provide Steinhoff with a new vector for growth, with Pepkor accounting for a quarter of its profits. Steinhoff treaded water during the quarter but it is likely that there will be more excitement about the stock as the offshore listing date approaches.

Old Mutual plc, our third largest holding, delivered a solid quarterly update and has placed more shares that it held in its US asset management operations during the quarter. Unexpectedly Old Mutual announced the departure of CEO Julian Roberts, who will be replaced by Bruce Hemphill, who used to head Liberty holdings. It remains the cheapest insurer trading at a discount to Embedded Value, while most of its peers are trading at premiums of over 20%, and offers a decent dividend yield of 4%, which could be boosted further by the proceeds from the part disposal of its US asset management stake. The fund also benefitted from its large holding in British American Tobacco, which proved defensive this quarter, positing a positive return in rand, benefitting from the depreciation of the currency against the sterling. On the downside, resources stocks remain under pressure with Northam down by some 13%, driven down by a pull-back in the PGM basket volatility. The pressure on the platinum price also affected Anglo American, which was down close to 4% this quarter. On the other side, our largest resources position is in Sasol, which benefitted from a resilient oil price and shrugged off the news that CEO David Constable, will be leaving the company, to end the quarter up some 9%.

Our strategy
The fund reflects the best views of SIM's equity unit trust portfolio managers and holds a maximum of 20 stocks. It is not benchmark cognisant but owns no offshore stocks. We believe that this portfolio provides the best of both worlds in terms of representing our investment ideas aggressively, while providing adequate diversification. The fund's largest holdings are companies that are leaders in their respective sectors but whose valuations are below our estimate of fair value. The fund consists of companies trading at a lower forward PE than the market, lower price-to-book ratios and higher dividend yields. Globally markets continue to break records with the Nasdaq above its bubble peak and the Nikkei at 18-year highs. Locally, the market has shrugged off large earnings downgrades in resources shares and we have seen huge foreign flows into FINDI stocks, which have led to further multiple expansion. This is entirely disconnected from a sombre economic backdrop where S&P downgraded Eskom's debt to junk bond status and our economic growth forecast is an uninspiring 2% for this year. Some of the growth vectors of companies, such as African expansion, appear to have become more risky at this point in time. We are also seeing a flurry of offshore acquisitions, which is more indicative of the high rating of certain stocks and their inability to find organic growth opportunities in South Africa. At this point in time, we remain focused on avoiding stocks where the probability of capital loss is high.