Global equity markets had another very strong quarter, with "riskier" sectors, currencies and country markets continuing to fare best. The Fund has been well positioned for this rally since the market lows in early March, but we have now moved significantly more defensive. The South African market has moved ahead of the economic reality, in our view. Over the quarter, strong stock selection in the Fund and the overweight allocation to financial and industrial stocks again saw the Fund strongly outperform peers.

The S&P 500 index was up 15%, the FTSE 100 index was up 20.8% and emerging market indices were even stronger in dollar terms (MSCI EMF up 20.1%). Economic stability across the world is now evident and systemic risks from the financial crisis have receded. Unemployment is rising in developed economies, however, and growth prospects look weak. We are concerned about levels of underlying economic activity after the inevitable withdrawal of the current unprecedented and co-ordinated fiscal and monetary stimulus.

Commodity prices were generally higher over the quarter, driven by continued Chinese inventory building, stabilising economic fundamentals (after the lows plumbed in the first quarter of 2009) and renewed direct investor interest in commodities. Oil was relatively weak (up some 1%), while copper (up 24.2%), platinum (up 8.5%) and gold (up 6.6%) were stronger.

The rand was 2.7% stronger against the dollar, with its continued strength likely to significantly dampen the profit potential from SA resources companies, who are also facing high labour and electricity cost increases. The rand is benefiting from high relative interest rates, a narrowing current account deficit, investor interest in commoditybased economies and increasing general risk appetite.

The FTSE/JSE All Share index was up 13.9%, with most of the gains coming in July. Industrials were up 16.3% and financials were up 15.6%, while resources shares lagged (up 11.1%). Foreigners were strong buyers again of SA equities in this quarter, being net buyers of R24.8bn after being net buyers of R19.4bn in the second quarter. These strong gains were despite a very weak domestic economic environment - a struggling consumer, manufacturers facing weak demand and resources companies likely to deliver very low levels of earnings in the medium-term.

MTN's merger talks with India's Bharti remained topical throughout the quarter, with resolution in the form of a cessation of the potential deal arriving dramatically in the last hours of the quarter.

The top resources stocks were Kumba Iron Ore (up 41.6%), on the back of strong export sales volumes, Mondi PLC (up 39.9%) and Lonmin (up 32.9%). The worst performers were Harmony (up 0.6%), Impala Platinum (up 3.8%) and Sasol (up 4.6%) - all disappointing the market operationally. Anglo American (up 7%) was volatile as it sought to fend off the unsolicited merger proposals from Xstrata.

Financial stocks were led higher by Investec (up 36.5%), the JSE (up 27.9%) and Nedbank (up 24.1%) on improving risk appetite.
Financial share laggards were Abil (up 6.1%), Santam (up 6.2%) and the listed SA property stocks (up 12.2%). Industrial top performers were the highly economically-sensitive Datatec (up 45.2%), Imperial (up 39%) and Richemont (up 31.4%), on improving expectations of prospects. The more defensive telecommunication stocks were weak (Vodacom down 1.8% and MTN up only 3.2%) and so were Didata (down 0.4%), Raubex (down 6.2%) and Reinet (up 0.5%).

Our Fund's relative performance over the quarter was positively impacted by our underweight allocation to the resources sector, most notably the underweight positions in the gold counters and Anglo American. Generally, our industrial stock selection added positively to the Fund's outperformance, with overweights in Woolworths, Naspers and Aveng the highlights and MTN being a drag on performance. Our overweight position in financials added to outperformance, with particular contributors being Investec, the JSE and Nedbank.

Going forward, we remain more defensively positioned, with a strong focus on quality, lower risk companies, which are attractively priced. We favour companies with strong balance sheets, high franchise value and/or dominant market positions, low fixed costs and defensive earnings streams. We are avoiding companies, which have strongly rerated in expectation of high earnings growth in future - growth we believe may be elusive in the tough economic environment we expect. The Fund remains fairly aggressively positioned in our best stock selections, based on our team's proven bottom-up stock picking process.

Portfolio manager
Gavin Wood

Equity markets continued to rally in the second quarter following a sharp recovery in March. Base effects in key economic variables have contributed significantly to the renewed optimism, despite deteriorating company fundamentals as a result of the stronger currency. The Fund's underweight position in Resources counters, most notably the Gold shares, contributed significantly to the Fund's outperformance over the quarter, as Gold's safe haven status started to wane.

Commodity prices continued higher in Q2, led by Crude Oil prices (up 41%), Copper (up 23%) and Rhodium (up 23%). The Gold price advanced by 2% over the quarter in US$ terms, whilst the Rand gold price declined by 17% as a result of the stronger currency.

The Fed maintained its Fed Funds target range of 0% to 0.25% throughout Q2 2009, whilst reiterating that its target rate will remain near zero "for an extended period" and that it will continue to buy Treasury bonds and mortgage-backed securities. US Q1 GDP declined by 5.5% annualised, worse than consensus expectations of around a 4.6% decline. Despite these developments, international equity markets rebounded strongly in Q2, with the US Dow Jones index (up 11%), the Japanese Nikkei 225 index (up 23%) and the S&P500 (up 15%) recording impressive gains.

The local market was up 8.2% in rand terms, with Industrials (up 14%), Financials (up 12%) being the best sectors and Resources (up 3%) performing the worst. Gold Mining was the worst sector (down 16%), followed by Automobiles & Parts (down 10%) and Oil & Gas (down 1%).

The rally in Resources stocks that commenced in March dissipated during Q2, with Gold stocks leading the decline. DRD Gold (down 22%) and Harmony (down 20%) led the declines amongst the Gold counters, whilst Lonmin (down 21%) declined the most amongst the Platinum counters. Anglo American (up 40%) was the best performing Resources counter, boosted by the Xstrata offer to merge the two companies.

Financial stocks were led higher by Old Mutual (up 45%) as risk appetite returned to equity markets and given the company's gearing to market movements. Old Mutual's subsidiary Nedbank (up 24%) led the Banks higher as the sectoral rotation out of Resources stocks continued.

Construction shares led the Industrial index higher, led by Raubex (up 55%) and Aveng (up 34%), whilst Naspers (up 26%) led the advance in the Media counters, following strong gains in its associate company, Tencent's share price.

Our Fund's relative performance over the quarter was positively impacted by our underweight allocation to the Resources sector, most notably the underweight positions in the Gold counters. Generally, our industrial stock selection added positively to the Fund's outperformance, but our overweight position in Illovo detracted from performance. Our overweight position in Old Mutual and Banks contributed significantly to the Fund's outperformance, whilst the underweight position in Nedbank detracted from performance.

The Fund remains fairly aggressively positioned in our best stock selections, based on our team's proven bottom-up stock picking process.

Portfolio manager
Gavin Wood

The first quarter of 2009 did not provide any respite from the volatility in equity markets experienced during 2008. The Fund's aggressive underweight positioning in Resources stocks and reasonable stock selection within Financials and Industrials resulted in outperformance of market indices and peer funds.

During the quarter, commodities rebounded strongly following the substantial sell-off in 2008, with copper (up 39%), lead (up 34%) and platinum (up 22%) leading the way. Oil prices recovered from its lows of below $40 a barrel, following further OPEC production cuts and a stabilisation in world oil demand.

Developed market central bankers continued their aggressive easing of monetary policy and the US announced the details of the $1 trillion stimulus package. Despite these developments, international equity markets ended the quarter in the red, with the US Dow Jones Index (down 10%), the German Dax index (down 15%) and the UK FTSE 100 index (down 11%) recording the biggest declines.

A key theme that emerged is the fate of the US dollar and dollar assets like US treasuries and bonds, given the state of health of the US financial system. The consensus view is that the US government will need to print massive amounts of dollars to fund the Troubled Asset Relief Programme (TARP) and this will likely lead to higher inflation as well as a devaluation of the US dollar.

The local market was down 4.2% in rand terms, with Industrials (down 9%), Financials (down 7%) being the worst sectors and Resources (up 1.7%) holding up the best. Precious resources and defensive sectors fared the best, especially golds, platinum and pharmaceuticals, while paper, autos and travel and leisure were the worst performing sectors.

Our Fund's relative performance over the quarter was positively impacted by our overweight positions in the food producers: Illovo (up 26.6%) and Tongaat (up 8.7%) and our underweight positions in Anglo American (down 24.3%) and British American Tobacco (down 10.6%). The Fund's overweight positions in Remgro (down 11.7%) and FirstRand (down 25.1%) and underweight positions in Anglogold Ashanti (up 36.9%) and BHP Billiton (up 5.6%) detracted from performance over the quarter.

Earnings levels for most JSE-listed shares are still at or near record levels. However, disparities are starting to emerge between sectors and the defensive stocks are finally earning their premia. In uncertain and volatile times, we value the following characteristics in companies and will invest in companies exhibiting these qualities at reasonable prices:

-Lowest quartile position on the cost curve for manufacturing/resource companies. While this is an obvious characteristic, it needs to be assessed on a commodity-bycommodity basis. The principle of survival of the fittest applies.
-Position in the capital expenditure (capex) cycle i.e. companies that have completed their capex programmes and are now looking to reap the resultant rewards, as opposed to companies that are starting or still spending on capex. Companies that still need to spend and fund their capex will deplete their cash resources or increase their borrowings and will thus be worse off than companies that have completed their capex cycle. Franchise value. The companies' ability to pass on rising input costs to customers or reduce costs on a shrinking revenue base and thus maintain margins.
-Balance sheet strength. The obvious indicators are gearing ratios and interest cover. The not so obvious ones are off-balance sheet liabilities such as contingencies, finance leases etc.

The Fund remains fairly aggressively positioned in our best stock selections, based on our team's proven bottom-up stock picking process.

The fourth quarter of 2008 saw massive volatility, extreme pessimism and high selling pressure in October, followed by 2 months of relatively muted performance as the market recovered slightly from its lows, albeit with very high intra-month volatility. The Fund's aggressive underweight positioning in Resources stocks and reasonable stock selection within Financials and Industrials resulted in outperformance of market indices and peer funds. The portfolio was better positioned for the first part of the quarter than the second part.

During the quarter, most commodities (besides gold - up 0.9%) were again sold down aggressively, notably: rhodium (down 69%), oil (down 61%) and base metals down strongly (e.g. copper down 55%). This was on widespread confirmations of severe global growth weakening and faltering end-user demand. In addition, the credit markets froze up in the aftermath of the Lehman Brothers collapse - further adding to the real economy woes.

Authorities around the world acted strongly to mitigate the downturn, with coordinated fiscal responses and significant monetary easing. Nowhere was this more evident than in the US, where the US Fed lowered rates from 2% to "between 0% and 0.25%" and government measures to support the financial sector continued.

In South Africa, the growth outlook weakened considerably with the declines in export commodity prices and the first decline in final household consumption expenditure since 1998. This was mitigated to some extent by strong growth in government spending. The SARB cut the repo rate by 50bps to 11.50% at its MPC meeting in December on easing inflation pressures and the weaker economic outlook. Continued high current account deficit (7.9% of GDP in Q3) saw the rand weaken further against the US dollar (-11.5%).

Global equity markets were very weak, with the S&P 500 experiencing its largest quarterly drop (down 22.4%) and the MSCI World falling 21.7% (USD).

The local market was down 9.2% in rand terms, with Resources (down 12.9%), Financials (down 11.4%) being the worst sectors and Industrials (down 4.1%) holding up best. Defensive sectors fared best, especially golds, food retailers, fixed line telecommunications and healthcare stocks. Platinum, industrial metals, construction and paper sectors declined the most. British American Tobacco listed as the JSE's largest company (market capitalisation of R568 billion) after unbundling from Richemont and Remgro.

Our Fund's relative performance over the quarter was positively impacted by our overweight positions in Discovery (up 21.3%) and the food retailers: Woolworths (up 16.9%), Spar (up 16.1%) and Shoprite (up 14%) and our underweight positions in Northam (down 54.2%), Liberty International (down 49.8%) and Murray and Roberts (down 49.2%).

Stocks which detracted most from performance were the gold shares (Anglogold - up 31.2%, Harmony - up 18.1%), where we were underweight, and the retailers we did not hold (JD Group - up 24.6%, Foschini - up 24.5%, Lewis - up 20%). Additionally, our overweight positions in Impala Platinum (down 18.7%), and Sasol (down 17.7%) reduced alpha.

Looking ahead, we are generally:

· Continuing to avoid interest rate-sensitive consumer cyclicals, despite remaining positive on the banks sector and media sector on valuation grounds.
· Very underweight resources shares, which we believe are not yet pricing in likely medium-term earnings prospects from lower commodity prices and lower production volumes. We do hold Sasol however, which gives the portfolio exposure to the expected stronger rand oil price.
· Positioned in high quality, cash generative global and local companies - particularly those not dependent on consumer demand, which we forecast to be very weak in the mediumterm, notwithstanding the relief that is coming from lower fuel and food prices and lower interest rates.
· Avoiding companies, where margins are potentially at peak levels and could still disappoint in the economic slowdown and companies with weak balance sheets.
· Selectively buying oversold, very cheap mid-cap stocks.

The Fund remains fairly aggressively positioned in our best stock selections, based on our team's proven bottom-up stock picking process.


Gavin Wood
Portfolio Manager

The Kagiso Active Quants Fund changed its name to the Kagiso Equity Alpha Fund on the 01/02/2009 and it retained its history.