Manager’s Commentary

Stock markets started the year on a positive note, but soon began to relinquish some of the recent gains as investors' appetite for risk diminished. Fears that the Chinese economy is set to overheat, concerns over Greece's ability to reduce its budget deficit and a mixed response to President Obama's proposals for a widespread overhaul of the US banking system contributed to the decline in major indices. The continuation of the consolidation period, which began in the fourth quarter last year, also impacted on stock markets during January, as investors continued to take profits following the strong recovery. There have, however, been some encouraging signs too, including strong GDP data from the US in the fourth quarter and largely positive earnings reports for the same period; and towards the end of January, the European Commission indicated that it would not allow Greece's debt crisis to jeopardise the Eurozone. Some countries, notably Ireland and Estonia, are being given credit by the markets for taking decisive action and this may encourage others to implement austerity measures.

During the month, rights were taken up in Unicredit. It has been less badly affected than most and has an attractive position in Eastern Europe, particularly Poland, which has survived the crisis well. We continued to buy Alliance Data Systems and added to the holding in Royal Bank of Scotland, following a fresh look at its valuation and balance sheet. We sold Industrial & Commercial Bank of China, China's largest bank, and used the proceeds to participate in a placing of Sumitomo Mitsui, the large Japanese bank in which we have profitably invested in the past. Sumitomo Mitsui is the most efficient of Japan's three biggest banks. It has cleaned up its balance sheet and benefits from a stable management, a strong retail franchise in both its banking and brokerage operations and its exposure to overseas securitisation is limited. Having acquired the investment banking business Nikko Cordial from Citigroup last October, the bank is well placed to benefit from a recovery in corporate activity. The stock trades at 0.9 times book value after the issue of new shares. The Yen exposure gained through this purchase was largely hedged back into the base currency.