The fund returned 5.4% over the past quarter, bringing the return for the year to date to 11.9%, and thus well on track to achieving our desired level of return for the year. The return for the past year now stands at 18.1% and for the past 5 years 19.0% per annum, which is well above the targeted return for the fund. This is despite maintaining low risk levels and a low level of volatility within the fund.
The past quarter was a good environment for the fund, with resource shares largely flat over the period, while financial and industrial shares returned around 12%. We still believe that this is where the best value is to be found in the market, and have continued to position the fund as such. The equity component of the fund performed very well over the quarter. We have continued to increase equity exposure to what we believe are attractive opportunities in the market currently. Interest rate expectations have swung in a very short space from being too bullish in our opinion, to being too bearish. The FRA curve is now discounting a further three 50 bp increases in interest rates in the next 12 months, and many commentators are expecting as much as 3% to 4% further hikes in interest rates. We believe these expectations are too bearish and creating opportunities in many interest rate sensitive stocks for patient investors with a long time horizon and who do not value businesses on the next 6 months earnings expectations, but on the long run prospects for the business. As such we have increased exposure further to stocks like Edcon and FirstRand. Effective equity exposure within the fund now stands at 48%.
We built a substantial position in Netcare over the quarter, which now stands at 3% of the fund weighting. The attraction in the share lies predominantly in the GHG acquisition in the UK, which has created significant opportunity for the group going forward. With this transaction Netcare has established a significant share of the private healthcare market in the UK (estimated 25% of beds).
There are a number of positive dynamics in this market which we believe will drive growth going forward. The UK population is ageing, and obviously healthcare spend increases with increasing age. In addition the NHS is undergoing significant changes which will result in more business for the private sector. The government has announced that from 2008 the NHS will become a large purchaser of procedures from the private sector, and Netcare is well placed to benefit from this trend. In addition we believe there are huge rationalisation opportunities in the acquisition, which will include leveraging up low occupancies in the UK, centralisation of administration costs and procurement. A senior management team including Richard Friedland will be moving to the UK to oversee this process.
The transaction is highly leveraged, which in the event of successful operations will result in rapid de-leveraging and resultant strong profit growth, especially given the strong cashflow generation typical from hospital groups. Netcare are no strangers to debt, and were in a similar position locally with the acquisition of the Clinics group a few years ago. Risk is reduced by the fact that the UK debt raised for the transaction is totally ring-fenced in the UK (no recourse to SA operations).
During the quarter we slightly reduced weightings in Implats and Remgro as a risk management exercise. We also retain hedging of 20% of the equity portion within the fund, which at a reasonable cost protects this portion of the fund from significant downside in equity prices.
We also see good opportunities in the listed property market, and have increased our weight to the current 7%. Property performed well over the quarter and added to overall performance. We retain our preference for property shares with quality properties and a retail focus, and as such our major purchases were Grayprop and Acucap. We also added to our position in ApexHi A, which is attractive in an absolute fund given its more defensive nature (protected by the income from the B shares) yet trading at an attractive yield.
The bond allocation within the fund performed well over the quarter, as heightened volatility provided good trading opportunities. We were net sellers of bonds over the quarter. We continue to believe that fair value for RSA long bonds is closer to 9.1%, and as such our bond trading will remain a disciplined process centred on this fair value. Our preference still remains for listed property at current prices.
The international portion of the portfolio performed well over the quarter on the back of a weaker currency (7.6% depreciation against the dollar). We will retain our maximum 15% foreign weighting going forward.
We believe that the fund is well positioned with a balanced asset allocation currently. Cash levels have decreased significantly from levels close to 40% since the first quarter of this year as listed property, bond and inflation linked bond positions have been increased in the fund. In addition we see attractive opportunities in domestic stocks where we have increased weightings, but have kept material hedging levels in place given the capital protection objectives of the fund.

Edwin Schultz and Gavin Joubert
Portfolio Managers

The Coronation Capital Plus Fund produced a return of 21% for the one-year period ended 30 June 2006. This is well ahead of its return objective of inflation plus 4% (which has been 8% for the period, with CPIX running at around 4%), but importantly has been achieved without taking undue risk in the fund and with an average equity exposure of around 40%. The 3-year annualised return of the fund is now 22.5% per annum.
The first four months of the year saw a significant increase in emerging market equity markets globally, followed by a significant decline in May and June as fears of global inflation and slower global economic growth set in. At the same time as this market sell-off, the rand depreciated by 20% against the US dollar and concerns surfaced about further interest rate increases in South Africa. Surprisingly, global commodity prices did not decline significantly over this period. The result of these factors was that while resource stocks continued to appreciate, industrial and financial stocks, property stocks and bonds all experienced sharp declines. In our view, these declines created opportunities and the fund added significantly to its industrial and financial equity exposure in the months of May and June and started buying selected property stocks and bonds over this period.
The fund's net effective SA equity exposure was increased to around 43% over the past few months after being decreased to as low as 35% earlier in the year before the market declines. We added significantly to several existing local industrial and financial positions including Woolworths, Mr Price, Standard Bank and Telkom and established new positions in MTN, Edcon and Distell/KWV. Most of these stocks declined by 20% or 25% during May and June and at the time of purchase, all were trading on single digit P/Es on our estimates of normalised earnings. While the one year outlook for all of these locally orientated stocks may be slightly worse than what was expected several weeks ago, we do not believe that the longer term outlook for these companies has changed significantly and as a result neither have their business values. Three months ago when Woolworths was trading at R 17 a share we held the view that the business was worth R 20 a share. Today, Woolworths is trading at around R 13 and we still hold the view that the business is worth R 20 a share. Only two things have changed over the past three months: firstly the share price of Woolworths (from R 17 to R 13) and secondly, and more importantly, the return (before earnings growth and the dividend yield) we believe we will ultimately make from the fund's holding in Woolworths, which has increased from 18% (R 17 to R 20) to 54% (R 13 to R 20). A similar picture can be painted for all the stocks mentioned above.
We also added to the fund's SABMiller position over the past few months. SABMiller's operations are predominantly focused in emerging markets, including South Africa, other African countries, Colombia and Eastern Europe. Emerging markets offer great long-term prospects for dominant brewers like SABMiller as a result of growing economies and rising disposable incomes in these countries. The emerging market sell-off however resulted in a decline of around 20% of SABMiller's share price in London which we felt was unjustified given the company's longer-term prospects. Another buying opportunity arose when the price of Richemont,fell significantly as a result of the global equity market decline and worse than expected (short-term) results.
It is our view that the results were on balance very positive, including management's outlook and evidence of turnarounds in several unprofitable brands under 5% of fund capital) as the result of our view that the individual stocks within the fund are significantly undervalued whilst large parts of the ALSI index, notably the resource shares, are overvalued. The fund also continues to have around 20% of the equity exposure protected through put options.
It has been our view for some time that bonds have been overvalued and as a result the fund has held only a very small bond position over the past few years. With the decline in government bonds over May and June (the yield on the R157 moved from less than 7.5% to almost 9%) we started buying bonds and the fund now has a 12.5% bond position (up from 4.3% at the end of March 2006), with around 4.5% of that exposure being in inflation-linked bonds and the balance in government (mainly the 10 year R157 issue) and corporate bonds.
We also hold the view that international developed markets equities, including the US, Europe and Japan, are very attractive from a valuation point of view and over the past view months have added international equity exposure to the fund. This investment was primarily in the form of a 6.5% position in the Coronation Global Fund, a long-only fund of funds that invests in several underlying managers covering the US, Europe and Japan. It is our view that European equities, on a forward P/E multiple of around 12, are the most attractive from a valuation point of view within the developed world. We also bought a 2.5% position in the Edinburgh Partners European Opportunities Fund, a fund managed by a boutique investment house of predominantly ex- Templeton investment professionals with a valuation driven, disciplined investment process.
The recent sell-off in equities, property stocks and bonds has in our view created good opportunities for the fund to take advantage of. We believe the fund is well positioned to generate its target return of inflation plus 4% going forward, whilst at the same time holds a very low probability of losing capital over any rolling 12-month period.

Edwin Schultz & Gavin Joubert
Portfolio Managers

The Coronation Capital Plus Fund produced a return of 28.1% for the one-year period ended 31 March 2006. This is well ahead of its return objective of inflation plus 4% (which has been 8% for the period, with CPIX running at around 4%), but importantly has been achieved without taking undue risk in the fund and with an average equity exposure of around 40%. In line with our philosophy, this return was achieved within strict risk parameters and our objective of capital protection over a one-year period. The three-year annualised return of the fund is now 25.6% per annum.

South African equity markets continued to perform very strongly in the first few months of 2006 and the All Share Index is up 13.3% year to date, driven largely by a commodity boom and the resultant impact on resource shares. We hold the view that most of the resource shares are pricing in current commodity prices, which are well above what we would consider to be a normal level, and as a result these shares are overvalued. Consequently only 8% of the fund is invested in commodity shares, all of this in the Sasol and Impala Platinum positions which we believe are still undervalued, notwithstanding the fact that both of these shares have doubled over the past year.

During the past few months we increased the fund's position in Sasol when a buying opportunity was presented after the announcement of a potential windfall tax. We believe that our valuation of Sasol is relatively conservative, using a long-term oil price of US$32 and ZAR/US$ rate of 7. These inputs provide a fair value of R250 compared to the current share price of around R220. The windfall, or superprofits, tax is by definition intended to become payable when the company is making superprofits, as a result of high oil prices. If the normal oil price is closer to US$40 than US$30, bearing in mind that the current oil price is US$60, then our valuation would increase to a level closer to R300 a share and this would, in all probability, comfortably offset the negative impact of any windfall tax. If the long-term oil price is indeed US$32, then it is very unlikely that a windfall tax would be triggered, and our valuation of R250 would be intact.

We continue to believe that in general terms the industrial and financial areas of the market are offering more value than resources and, as a result, the equity portion of the portfolio in concentrated in these areas. Naspers continues to be one of the fund's largest holdings and is the cheapest Pay-TV stock globally, trading at half the valuation level of most Pay-TV stocks whilst at the same time having a much stronger competitive position in the markets in which it operates when compared with its global peers. The South African, African and Greek Pay-TV businesses of Naspers provide over 70% of the group's free cash flow. Naspers currently trades on a price/free cash flow multiple of around 12 using normalised free cash flows, whereas DirectTV and BSkyB, the US and UK equivalents to MultiChoice (Naspers' SA and Africa Pay-TV business) trade on multiples of 17 and 20 respectively.

We believe that the large equity market moves, in particular over the past few months, have been driven largely by momentum as a result of aggressive buying by foreigners. The construction shares for example now trade on forward P/E's of between 12 and 15 which we consider to be far too expensive given the relatively lower quality of these companies and their earnings streams. This is just one example of overvaluation, but there are others. Whilst we are comfortable with the fund's existing equity positions and believe that all of these are undervalued, we are finding it very difficult to identify new undervalued stocks for the portfolio. We therefore remain cautious on the SA equity market and continue to have 20% of the equity portion of the portfolio hedged through put options.

There has been very little other activity in the portfolio over the past few months and our negative view on bonds in particular, and listed property to a lesser extent, are still reflected in relatively small positions of 3% and 4% respectively. US long bond yields have continued to increase and are now approaching the 5% level, from around 4.3% a few months ago. Yet South African bonds have not moved in response to this and we believe that the extent of overvaluation of SA bonds has increased even further. With continued rand strength we have taken additional cash offshore and the fund has close to 15% international exposure, 3% of this invested in equities, predominantly in Japan, with the balance in cash. Our intention is to invest more of the international cash in offshore equities as we believe that international equity markets are offering reasonable value. The forward P/E multiple on the European markets for example is just above 12 which we believe is very attractive.

Whilst we are becoming even more cautious on equities and are finding it difficult to identify other asset classes with adequate return potential, we continue to hold the view that the fund is well positioned to generate its return objective of inflation plus 4%, whilst at the same time having a very low probability of losing capital over any rolling 12-month period.

Edwin Schultz & Gavin Joubert
Portfolio Managers

The Coronation Capital Plus Fund produced a return of 23.2% for the one-year period ended 31 December 2005. This is well ahead of its return objective of inflation plus 4% (which has been 7.9% for the period, with CPIX running at 3.9%), but importantly has been achieved without taking undue risk in the fund and with an average equity exposure of around 40%. In line with our philosophy, this return was achieved within strict risk parameters and our objective of capital protection over a one-year period.
On the back of a very strong year from the equity market (with the FTSE/JSE All Share Index up 47%), the biggest contributors to the fund's performance this year have been several of the fund's core equity positions, particularly Impala Platinum (+95%), Sasol (+87%) and VenFin (+90%), following the take-out offer from Vodafone Plc.
The fund has held a significant position in VenFin for the past few years because we believed that the largest asset in VenFin, being Vodacom, is a great asset that grows its business value year in and year out through significant free cash flow generation. In addition, VenFin always traded at a large discount to its NAV which provided good downside protection. The market's view was that there was no 'catalyst' to unlock this discount and so VenFin would always trade at this discount to NAV. Our view is that valuation is the only catalyst that an investor needs and we were happy to buy an asset that was trading at such a large discount to the underlying value of its investments, and wait patiently for that value to be recognised. Vodafone Plc saw that value and on the day of the announcement of the transaction the discount that had been in place for five years disappeared in the space of a few minutes with the VenFin share price appreciating by over 30% in one day. The fund today holds positions in a few other stocks that trade with these nonsensical 'holding company' discounts, including Remgro, Johnnic Communications and Johnnic Holdings. We're not sure if these investments will be as rewarding as VenFin, but what we do know is that these stocks own some great assets and are trading at a large discount to the underlying value of these respective assets.
There has been very little activity in the portfolio over the past few months and our negative view on bonds in particular, and listed property to a lesser extent, are still reflected in relatively small positions of 3% and 5% respectively. With continued rand strength we have taken additional cash offshore and the fund has close to 15% international exposure, 3% of this invested in equities, predominantly in Japan, with the balance in cash. Given this, and with equity exposure at just over 40%, the cash holdings in the fund are currently high at around 27% and we continue to wait for attractive opportunities to arise rather than put this capital at risk.
The fund only added one new equity position over the past quarter, that of Dorbyl, which at the time of purchase we believed offered a 30% margin of safety and importantly also offered good downside protection as a result of the fact that approximately 50% of the NAV is in cash. Whilst the remaining business in Dorbyl, the South African automotive division, is not a high quality business, we believe that this, and more, is already in the share price. We also added to several existing positions, including Standard Bank, Metropolitan, Peermont Global and AVI, all for the same reason, being that the share prices of these companies had not increased for some time yet their business values had continued to grow which meant the gap between the share price and business value, being the margin of safety, opened up sufficiently.
Going into 2006, we are becoming more cautious on equities, given their very strong performance over the past few years, and we are currently in the process of critically evaluating a few of the fund's equity positions with the net result that equity exposure is likely to move down over the next few months. We do however continue to hold the view that the fund is well positioned to generate its target return of inflation plus 4%, whilst at the same time having a very low probability of losing capital over any rolling 12-month period.

Edwin Schultz & Gavin Joubert
Portfolio Managers