Manager’s Commentary

Fears over European sovereign risk were rekindled during June in spite of the huge support fund agreed between the members of the eurozone in May, following on from the emergency funding of Greece. European banks retreated again as investors became worried over the impact of sovereign credit on their balance sheets; indeed, worry was the most visible emotion during the period under review. It is clear that investors are currently in no mood to take anything on trust. As if to confirm these fears, the actions of the Chinese authorities appear to have slowed China's economy and economic statistics across the developed world have been weaker. The market response to these developments seems to have been accentuated by a lack of support from conventional fund managers, who increased holdings at the beginning of the year. This left hedge funds and other opportunistic investors to push markets in the direction of least resistance, which at the moment, is down. There have been some positive developments including the long-awaited freeing of the Renminbi; the sovereign bail-out in Europe; the gathering consensus of fiscal retrenchment, as exemplified by a well-received UK budget; a normalisation of foreign exchange rates and significantly diluted bank capital adequacy plans. The performances of the markets and the Company were disappointing in June and the issues that concern investors are serious. We have maintained our positive view of equities as we believe that ultimately the current fears, although real, will diminish and confidence in the sustainability of the recovery will return. We must not forget that Europe is in better fiscal shape than the US, that the world will grow strongly this year and that global financial institutions have recently been through a substantial balance sheet clean-up and recapitalisation process. Importantly, equity valuations are very attractive - particularly when compared to competing asset classes – even though volatility is currently very high. We think that it is correct to be fairly fully invested now, when many investors are capitulating and valuations are so low across the board. The long term investor is being presented with the opportunity to own shares in a selection of high quality companies at truly compelling prices. In June, further shares were purchased in BP, which is currently at the height of its difficulties in the Gulf of Mexico. There are a number of factors which support the case for investing in BP at the current depressed price, not least of which is the fact that the Gulf of Mexico represents only 14% of its current production (the US as a whole is 27% of current production). New purchases were also made in the resource companies Equinox Minerals and Xstrata, and in Transocean, the largest owner of offshore rigs. We began to sell Nintendo, the Japanese video game console maker. Competition from Apple's iPod Touch and iPhone is increasing; and Nintendo's new 3DS, (a 3D handheld), is unlikely to boost the company's earnings for some time so we decided to lock in profits. We started to sell PICC Property and Casualty, the Chinese insurer, which has done well.