Global equity markets rebounded strongly in the quarter, more than erasing losses from the prior quarter. This was despite worsening global economic data and reversing fiscal stimulus. The optimism seems largely due to the anticipation of further monetary stimulus from developed market central banks. These expectations fed through to heavy foreign buying of South African bonds and a massive 9.7% strengthening in the rand against the US dollar.

We remain cautious that the signs of economic recovery are distorted by government stimulus measures. It is not clear what levels of economic activity will be sustainable as this stimulus is inevitably withdrawn. Additionally, economic activity will be depressed by the need for developed country austerity measures, which are necessary if historically very high levels of debt are to be reduced.

Add to this: high structural unemployment, massive welfare and pension liabilities and other economic imbalances, and we have a tough outlook for markets. We are wary that the short-term positive impact of additional developed market monetary stimulus will be difficult to sustain. On the positive side, we believe that there are strong prospects for companies focused on emerging market consumers. We are positioned in some of these, which are still priced below intrinsic value.

The Kagiso Equity Alpha Fund had an average quarter compared with its peers in the General Equity sector, due mainly to a more defensive positioning in a strongly positive period and due to our tactical positioning for a weaker rand. Despite this, we ended September 2010, within our sector: 4th year to date, 5th over 3 years and 2nd over 5 years (according to Morningstar).

Commodity prices were significantly stronger over the quarter, with the weak US dollar providing some support: copper was up 23.5%, oil up around 6%, platinum up 8.5% and gold up 5% (hitting new all-time highs).

The rand was 9.7% stronger against the US dollar, in line with many other emerging market currencies and around 3% stronger against the pound and the yen. The euro was strong for the quarter as fears about their sovereign debt situations receded somewhat. This rand strength was despite a 0.5% cut in the repo rate by the SARB on a muted inflation outlook and very subdued economic activity.

The FTSE/JSE All Share index was up 13.3% during the quarter, with financials (+15.2%) and industrials (+18.5%) again outperforming resources (+7.1%).

Foreigners did not add to their equity positions in the quarter, after being strong net buyers over the past year. Foreign investors bought high volumes of South African bonds in their search for yield, driving down bond yields to multi-year lows (the 10-year bond yield fell to 7.9% (from 8.8%). Foreigners have bought a substantial R74.1 billion in South African bonds in the year to date.

Naspers (+32%), Mondi (+28%), Cipla Medpro (+35%), MTN (+26%) and Richemont (+27%) were strong performers for the fund, but our exposure to sugar, hospital and general defensive stocks lagged the broader market's surge.

Going forward, we remain 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 re-rated in expectation of high earnings growth in future - growth that we believe may be elusive in the tough economic environment we expect.

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

Portfolio manager
Gavin Wood

The JSE code for the A class changed from KAQF to KEAF on 01/10/2010

Global equity markets declined fairly sharply in the quarter as concerns mounted that the global economy was not necessarily on the path to a sustainable recovery. The spotlight seemed to focus on troubles in southern Europe and tightening in China, but our sense is that these are not new issues but merely manifestations of the concerns we have been highlighting for some time.

The signs of economic recovery are distorted by the current unprecedented and globally co-ordinated fiscal and monetary stimulus. It is not clear what levels of economic activity will be sustainable as this stimulus is inevitably withdrawn. Additionally, economic activity will be depressed by the need for developed country austerity measures, which are necessary if historically very high levels of debt are to be reduced. Add to this: high structural unemployment, massive welfare and pension liabilities and other economic imbalances, and we have a tough outlook for markets.

The Kagiso Equity Alpha Fund had another good quarter and, compared with its peers in the General Equity sector we ended June 2010: 2nd over 6 and 12 months, 4th over 3 years and 1st over 5 years (according to Morningstar). Stock selection added strongly, as did our underweight position in the Resources sector and overall defensive stance.

Commodity prices were generally weaker over the quarter as previous optimism proved misplaced: copper was down 16% and oil around 10%. Gold proved the exception, as is often the case when there is market volatility, rising 12% and hitting an all-time nominal high of $1265/oz at one point.

The rand was 5% weaker against the US dollar, but 5.5% stronger against the euro, as European sovereign debt concerns weighed on the latter. The Chinese authorities moved to restore the more flexible exchange rate policy for their renminbi that prevailed prior to the financial crisis. The FTSE/JSE All Share index was down 8.2% during the quarter, with financials (-4.5%) and industrials (-7.8%) outperforming resources (- 11.9%).

Foreigners were again buyers of South African equities in the quarter, being net buyers of R8.7bn ($1.1bn) after being net buyers of R12.3bn ($1.6bn) in the previous quarter. This follows on the 2009 total net inflows into South African equities of R73.7bn ($8.9bn). It concerns us that this wave of capital into our market is distorting prices in certain sectors, but we believe this provides strong stock pickers with great opportunities.

Our fund's relative performance over the quarter was aided by our generally defensive positioning. In particular, we avoided many of the worst performing resources stocks. Naspers was a major disappointment to us in June as its listed Chinese holding, Tencent, came under pressure in the face of changing regulations pertaining to internet companies in China.

Going forward, we remain 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 that we believe may be elusive in the tough economic environment we expect.

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

Portfolio manager
Gavin Wood

Global equity markets enjoyed yet another strong quarter as investors seemed to shrug off fiscal concerns in southern Europe and monetary tightening in China and seemed to focus on widespread evidence of the global economic recovery that is under way.

The Kagiso Equity Alpha Fund performed slightly better than its peers on good stock selection despite a more defensive overall stance and an underweight position in resources and consumer cyclical stocks.

Developed economy equity markets were generally up around 5%, slightly outperforming emerging markets. Broad-based economic expansion is now evident across the world with industrial production and consumer expenditure expanding. Unemployment remains high in developed economies, however, and their government debt burden continues to climb.

We remain concerned about levels of underlying economic activity after the inevitable withdrawal of the current unprecedented and globally co-ordinated fiscal and monetary stimulus. The government economic bailout has been successful, but we worry about the need for governments to share the cost burden of the bailout with the private sector in time.

Commodity prices were again much stronger over the quarter, driven by continued Chinese demand, improving OECD industrial production and continued direct investor interest in commodities. Gold (+1.7%) and oil (+2.1%) were slightly up, while copper (up 6.6%), platinum (up 11.9%) and bulk commodities (iron ore and coking coal in particular) were much stronger. Global major bulk commodity producers have been successful in adjusting pricing mechanisms to quarterly resets.

The rand was again stronger despite a surprise 0.5% interest rate cut in March as the SARB worried about economic growth and saw limited risks for inflation. It was: 1.8% stronger against the dollar during the quarter and a massive 6.3% stronger against the euro (the currency of South Africa's main trading partners). Its continued strength dampens the earnings prospects and competitiveness of South African exporters, especially the miners.

The FTSE/JSE All Share index was up 4.5% during the quarter, with financials (+9.9%) outperforming industrials (+4.4%) and resources (+2.1%). These strong gains occurred despite a very weak domestic economic environment - a struggling consumer, manufacturers facing weak demand and a strong currency.

Foreigners were buyers again of South African equities in the quarter, being net buyers of R12.3bn ($1.6bn) after being net buyers of R12.6bn ($1.6bn) in the previous quarter. In 2009, net inflows into South African equities were R73.7bn ($8.9bn).

Our fund's relative performance over the quarter was aided by our banks and other financials positions, the paper exposure (via Mondi) and IT exposure (Datatec). The fund was negatively impacted by our position in Arcelor Mittal, which received very negative news from Kumba in the form of the termination of its low cost iron ore arrangement. Our generally defensive positioning saw us miss out on the very strong performance in the retailers.

Going forward, we remain 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 that 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

Global equity markets enjoyed yet another strong quarter as investors priced in a stronger global economic recovery. Emerging markets, including South Africa, outperformed developed markets on better growth prospects and more resilient fiscal positions.

The Kagiso Equity Alpha Fund performed slightly better than its peers on good stock selection despite a more defensive overall stance and an underweight position in resources. The fund ended 2009 3rd over 1 year, 2nd over 3 years and 4th over 5 years in the Domestic Equity General sector of unit trusts - currently comprising 80 funds (source: Morningstar). The fund remains 1st over the period since its inception in April 2004.

The S&P 500 index was up 5.5%, the FTSE 100 index was up 5.4% and emerging market indices were even stronger in dollar terms (MSCI EMF up 8.3%). Economic stability across the world is now evident with industrial production and consumer expenditure increasing off a very low 2008 base. Unemployment remains high in developed economies, however, and their government debt burden continues to climb. We remain concerned about levels of underlying economic activity after the inevitable withdrawal of the current unprecedented and globally co-ordinated fiscal and monetary stimulus.

Commodity prices were again much stronger over the quarter, driven by continued Chinese demand, improving industrial production and renewed direct investor interest in commodities. Gold was up 8.9% (although way off its all time high of $1216/oz reached in early December), while oil (up 15.6%), copper (up 19.7%) and platinum (up 13.2%) were much stronger.

The rand was 1.8% stronger against the dollar during the quarter. Its continued strength is likely to significantly dampen the profit potential from South African resources companies, which 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 commodity based economies and increasing general risk appetite.

The FTSE/JSE All Share index was up 11.4% during the quarter. Resources shares were up 16.7%, industrials increased by 8.5% and financials were up 6.5%. Foreigners were again strong buyers of South African equities during the quarter with net buyers amounting to R12.3billion compared with net buyers of R24.8billion in the 3rd quarter. These strong gains occurred 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. The South African economy did, however, technically emerge from recession in the 3rd quarter.

The top resources stocks were Northam (up 45.6%), Anglo American (up 33.9%) and Kumba Iron Ore (up 23.0%). The worst performers were the gold shares: Harmony (down 5.3%), Gold Fields (down 3.5%) and Anglogold Ashanti (up 1.6%) - all despite the record USD gold price.

Industrial top performers were Netcare (up 33.1%), Steinhoff (up 29.8%) and SABMiller (up 20.6%). Construction stocks were weak with Murray & Roberts (down 19.8%) and Wilson Bayly (down 13.4%) as well as Telkom (down 13.4%), Nampak (down 11.0%) and Barloworld (down 8.0%). Financial stocks were weakest, led higher by Santam (up 22.6%), Firstrand (up 12.5%) and Sanlam (up 10.9%). Financial share laggards were Investec (down 5.1%), the JSE (down 2.8%) and Liberty International (up only 1.5%).

Our fund's relative performance over the quarter was negatively impacted by our underweight allocation to the resources sector. Generally, our industrial stock selection added positively to the fund's outperformance, with overweights in hospital stocks Netcare and Mediclinic as well as Naspers being the highlights. MTN was once again a drag on performance. We held a more neutral position in financials, with Firstrand contributing positively and Investec and the JSE detracting.

Going forward, we remain 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 that 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