The last quarter was undoubtedly the most volatile period we have encountered in recent history. From its high point in early July, equity markets plummeted 13% before turning around and recovering 16% to end the quarter back on its previous highs! Not for the fainthearted and certainly not for short term traders who most likely bailed out in the lows and missed the sharp recovery. If ever there was a time for cool heads and a long term investment outlook, it was the past quarter. The fund returned 3.9% for the quarter despite the extreme levels of volatility.

Reflecting the more defensive nature of some of our holdings and the stock picking involved, when the markets had declined in excess of 13% from its high in the quarter, the fund was down 9.7% over a similar period. This was all recovered by the end of the quarter.

A lot has been written about the causes of the recent global instability. In summary, it was the result of the excesses that built up in global, and mainly developed, economies due to too much liquidity having been pumped into markets by central banks in previous years. As central banks started tightening it was inevitable that some of theses excesses would be squeezed out; it is unfortunate that the main central banks have chosen to address this by again opening up the taps of global liquidity. The potential risks to inflation worldwide, as a result, remain high.

What this means to local investors is that the bull market in commodities has been extended further, as the attraction of investing in real hard assets which outperform inflation during times of excess liquidity remains strong. Fundamentally however it means when the slowdown does come, which it inevitably will, the fall will be that much further and harder.

Stock picks that really came through for the fund were our holdings in Sasol, Impala and Billiton. Sasol we have talked about many times in these commentaries, stating how it was too cheap and that it offered great potential over the longer term due to its rand hedge characteristics and blue sky growth opportunities. Subsequent to the release of the review into a windfall tax we are glad to see that the market has again started concentrating on the growth opportunities and re-rate the company significantly. Impala and Billiton rallied strongly on the back of global commodity prices as the reduction in global interest rates sparked inflationary fears. We do however remain underweight resources as a sector, due to what we believe to be stretched valuations.

We used the volatility in the market to add to some of our domestic holdings as well as one or two new positions. The biggest new position is a holding in Investec, which came under a lot of pressure due to its illtimed acquisition of the Kensington group in the UK, an originator of non-conforming home loans. With the subprime shake out and the Northern Rock collapse, sentiment is very negative towards this end of the market. Based on our fundamental knowledge of the group's total operations we think the stock looks attractive now.

Overall the portfolio is still structured towards the domestic market, where ratings are low, and expectations for growth have been pulled back dramatically over the past year. We think that the market has become too pessimistic in the short term and is once again ignoring the long-term investment outlook. We believe this will be the driver for future outperformance in the medium to long term.

Neville Chester
Portfolio Manager

In a benign global economy with generally strong performance from developed markets and very strong performance from emerging markets, the JSE continued to deliver good returns. While the first quarter saw a return to favour for domestic stocks, the second quarter was marked by resurgent commodity shares and a fall out of favour for domestic stocks. The interest rate sensitive stocks were particularly impacted as concerns mounted over the future direction of interest rates. During this period the Coronation Equity Fund delivered a return of 2.4% against the FTSE/JSE All Share Index of 4.3% and the SWIX of 2.6%.

Returns were very volatile once again as newsflow, both globally and locally, affected market sentiment. Changes in risk appetite globally initially spurred by worries in the sub-prime market were then carried over into the treasuries market as concerns over global inflation pushed US and UK bond yields well over 5%. Despite moves by central banks around the world to curb inflation, commodity prices have continued rising as pundits bet that demand will not be significantly impacted by the tighter global monetary conditions. Indeed, China's growth, despite several tightening actions taken by that country's government, has continued to be strong.

Locally, the interest rate hike in June and the poor inflation data that spurred it has seen a distinct trend emerge. This is not dissimilar to that which occurred in May 2006 as many investors have exited interest rate sensitive stocks on growing concerns over their ability to generate good returns in this environment. This blow has been worsened recently by the impact of the National Credit Act which has been particularly hard on the furniture retailers whose business model has been found wanting. Interestingly enough, the excessive exuberance I alluded to in my last quarterly about Eland and other mining juniors seems to have been deflated somewhat as people begin to rationally assess their valuations.

The big charge this quarter was led by the heavyweights, Anglos and Billiton, which have seen very strong returns as investors have increased their commodity price forecast and the M&A speculation in the market persists. Amazingly, this rerating has managed to miss Sasol entirely, whose share price has languished despite the oil price moving up strongly. Because of this contrary action we have continued to add to our Sasol position as the business fundamentals are significantly better in this high oil price environment. While short-term newsflow over production in Qatar is not positive, we are looking through this to the long-term oil production view.

The fund significantly reduced its exposure to clothing and furniture retailers in the first quarter and early part of the second. This has enabled us to avoid a lot of the bad news in this sector. Indeed, valuations are now once again starting to look attractive as investors are possibly starting to overreact to the impact of the rate hikes implemented and expected.

Despite the noise about private equity in the past year, very little has actually transpired in the way of sales of businesses to these parties. The possibility of a take-out however will probably underpin a number of companies in the market, which means that the possibility of getting really cheap bargains is not as good as before. That said, as interest rates do rise, it increases the cost of taking out businesses and will probably lower the floor price for possible deals.

The fund is currently well balanced between good value defensive shares, attractively priced domestic shares and appropriate rand hedges. These should deliver good sustainable returns over the coming years.

Neville Chester
Portfolio Manager

The markets continued with their strong run into 2007, although we have already had one or two jitters in late February causing some volatility. A large portion of the JSE is now held by foreign investors and we will have closer correlation to global emerging market jitters than ever before. Foreign investors continue to invest as they believe there is good value to be had in SA (our ratings are generally at a discount to most other emerging markets) and the outlook for economic growth remains positive.

We are in agreement with this outlook and despite the rerating our market has experienced, we remain positive towards equities, with the expectation that returns will not be as stellar as seen in the past few years - and will certainly be volatile in the short-term. Anyone investing in equities should however realise they are investments for the longer-term and short-term gyrations usually create opportunities (The market sell off in May/June last year being a prime example)

A number of changes have been made to the fund in the quarter, mainly enforced by the plethora of private equity deals. We reduced our large Edcon stake as most of the upside had been achieved and invested this predominantly into Sasol. Sasol is languishing under a cloud of uncertainty currently, as the windfall tax proposals have still not been finalised despite more than a year having lapsed since it was first proposed. It is struggling to sell a business it bought during the low oil prices at the turn of the century which is now not profitable at high oil prices. Finally they have invested a huge amount of capex in expansion plans in Qatar, Nigeria, Iran and in South Africa and so far we have seen very little return on this spend.

All these perceived negatives mask the strength of the main synfuels business as well as the opportunities that could arise from these negatives. The windfall tax is (as the name suggest) a tax that only kicks in at very high prices which would normally create windfall profits. We don't value Sasol on this basis and any windfall profits (taxed or untaxed) would be a bonus to our investment case. The Condea unit which they have been trying to sell is negatively impacted by very high oil prices, so now is probably the worst time to be selling it and they should wait until conditions in the oil market normalise. Lastly the projects that they have embarked upon will come on stream and when they get up to their efficient operating levels, will become significant cash generators. Therefore we believe Sasol is extremely cheap and is as a result one of our top shares in the portfolio.

Other new additions to the portfolio include Tiger Brands, which is a great company and is now looking attractive on a valuation basis. We continued to add to Netcare and Implats, the latter being a switch from our holding in Eland Platinum. This is another textbook study in the sentiment of markets. Coronation was an early supporter of Eland, providing share capital for the group pre-listing and as well on listing date. Despite being a good potential platinum resource the share languished for the majority of 2006 around its listing price of R23.00 (and we bought more shares in the market). Over the past six months, despite the fact that the mine is still in the very early stages of production it has increased 4 fold. Why it suddenly took off in early October is anyone's guess but such is the weight of money pouring into the stock that we now believe it is expensive for what is still a very early stage mine. Markets tend to overreact in both directions (up and down) and the twelve month price history of Eland is a classic example.

For the record, the fund returned 11.1% versus its benchmark of 10.7% at March quarter end.

Looking forward we are still very comfortable with the shape of the portfolio. We have used market strength to reduce some of the large interest rate sensitive holdings and much of this has ended up in slightly more defensive and rand hedge shares. We are still overweight the domestic economy and believe the continued good growth locally will support these prices over time.

Neville Chester
Portfolio Manager

The final quarter of 2006 was another impressive quarter for SA equities. Markets around the world shrugged off the volatility experienced in May/June and in South Africa market participants began looking through the tightening rate cycle to what was actually happening in the underlying economy. Domestic stocks, which had underperformed up until this point came back strongly, vindicating the fund's overweight position in these shares. For the quarter the FTSE/JSE All Share Index delivered 11.8%, rounding off another enormous year of 41.2%. The Coronation Equity Fund delivered 18.45% for the quarter, which was a very pleasing way to end off the year.

The domestic sectors where the fund had large exposures and which performed extremely well during the quarter were media, telecommunications and banks. These were all aided by the strengthening rand which retraced from its oversold position to a more normal level. At the same time, towards the end of the year, fears of a vicious interest rate cycle were allayed by improving inflation data implying that interest rates were nearing a peak and that the consumer has not been badly affected. We have also seen the first cracks starting to appear in the resource bull market story. Commodity prices have started coming under pressure as inventories have started building up and speculators realise that without continually rising prices they do not stand to make any returns. Specific commodities, like platinum, where we do believe in the long term fundamentals have held up, but many base metals are looking weak and this has reflected in the share prices of some of the big diversifieds. We expect this to continue in 2007.

The outlook for the year remains fairly benign. The economy is performing well and barring any external shocks we should shortly see the end of the rising interest rate cycle. This should enable growth to continue at fairly high levels which will be positive for all facets of the economy. This had started to be factored into the price of equities in the last quarter of 2006, making the return outlook for equities in 2007 less clear. Relative to other emerging markets South Africa still looks fairly cheap, but this needs to be followed through with earnings growth. All indications are that earnings will come through strongly in key sectors.

Our largest exposures continue to be to domestic stocks, although we have started using some of the weakness in certain commodity shares to add to these holdings where we have seen value starting to emerge. We remain convinced that our approach will continue to deliver outperformance over the medium- to long-term investment horizon.

Neville Chester
Portfolio Manager