Fund Review
The STANLIB Bond Fund returned 6.46%. vs the benchmark return of 5.92%.
The size of the STANLIB Bond Fund increased from R966 million to R1 billion during the third quarter of 2011. The modified duration of the portfolio was increased to match that of the All Bond Index at 5.9 years from 5.6 years the previous quarter. The Fund still maintained an overweight position in the middle sector of the yield curve in anticipation of further normalisation during the third quarter. In order to increase the duration of the Fund, a purchase of RSA 2026 paper was increased in the fund and funded by cash inflows into the Fund. Credit spreads continued to tighten during the third quarter, benefiting the Fund as it maintained an overweight position in credit. The RSA 2022 Inflation Linked Bond's holding was slightly trimmed into strength during the third quarter.

Looking Ahead
The third quarter started on a positive note as benchmark 10-year government bond yield, buoyed by demand from foreign accounts, declined towards the 7.50% level after opening the quarter at 8.415%. The bullish undertone was, however, reversed in the last month of the quarter as risk aversion across the globe led to currency volatility in emerging markets and this curtailed the gains for the period in this market. The returns for the quarter still ended positive, with the benchmark JSE All Bond Index returning 2.8% for the three months. The sovereign debt crisis, with Greece at centre stage in Europe, coupled with fears of another recession has had a huge impact on sentiment towards perceived risky assets such as those offered by emerging markets. Greek 2-year bond yields touched a high of 75% before ending the quarter at 60%. Jittery foreign investors sold out of South Africa and the Rand lost 18.9% of its value during the third quarter, with most of this happening in the last month of the quarter. The VIX index, which is a measure of market volatility, jumped from 15% to 43% in response to the global sell off, sparking a widening in the sovereign credit spread from 140 basis point to 255 basis points. At the same time there was a significant normalization of the yield curve with the yield differential between the longer dated R186 and the shorter dated R157 trading up to 161 basis points at the end of September from 110 basis points at the beginning of the July, largely in response to government issuances in the long end and an accommodative monetary policy supporting the short end.

Fund Review
The STANLIB Bond Fund retumed 12.84% versus the All Bond Index retum of 11 .32%. The Fund's yield curve position was structurally left unchanged during the third quarter, with the new inflows being invested in the middle sector. The overweight position in credit was also retained benefiting the Fund as spreads tightened further. During the quarter, the Portfolio purchased RSA 2022 inflation linked paper as a means of diversifying inflation risks developing as evidenced by the continuous upward revision by the SARB monetary policy committee. The short modified duration position of the Fund was trimmed during the quarter as demand for higher yielding emerging market debt by intemational investors drove yields to intra-quarter lows before correcting higher towards the end of the quarter.

Looking Ahead
Second quarter bond retums improved significantly as compared to the first quarter as demand for risky assets saw significant inflows into emerging markets, with South Africa also attracting a fair amount of attention. The demand for emerging market debt has allowed these countries to fund the budgets at cheaper levels. The All Bond Index (ALBI) retumed 3.89% for the quarter, easily outperforming all other asset classes. The 10 year RSA 2021 bond opened the quarter at 8.72%, the highest levels for the period, and ended the quarter at 8.415%. The global inflation dynamics have seen a discord between emerging markets and developed markets, with emerging markets on a higher inflation trajectory due to rising cost push factors, but developed markets' inflation still tepid. The yield curve remained positively sloped as longer dated debt instruments were demanded less than shorter dated instruments, a result of a highly accommodative monetary policy stance by the SARB and higher bond supply in the long end. Local debt yields were highly correlated with the US treasuries which ended the quarter on a positive note. Corporate bond spreads continued their out-performance. The SARB monetary policy committee left rates unchanged in their meeting during the quarter, although as expected they revised the inflation forecast higher but still see a breach above the 6% targeted ceiling as being temporal. Although headline inflation is increasing, the SARB indicated that they will only act when they see second round effects on prices developing. A strong currency will help soften inflation threats, although it will hurt South Africa's terms of trade. The SARB is expected to keep lending rates on hold for this year, with a possible hike pencilled in for the first quarter of 2012.

Fund Review
The STANLIB Bond Fund returned -1.1% over the quarter versus the All Bond Index return of -1.6%. Major yield curve trades were to decrease the overweight position in the 12+ area from 43% to an underweight position of 16% of the fund, which was placed into lower risk money market instruments. Moving the fund down the yield curve, protected the portfolio from the aggressive upward movement in yields in the long end of the yield curve. The yield curve is expected to steepen over the medium term. The modified duration of the fund was decreased from 6.5 to 4.9 years by reducing the holdings in the RSA 2026 (R186) and RSA 2021 (R208) bonds. Exposure in corporate bonds was increased due to the attractive levels at which they were issued, adding yield to the portfolio.

Looking Ahead
The first quarter of 2011 saw bond returns dipping back into negative territory on the back of risk aversion and a flight to quality as foreign investors liquidated their investments in emerging markets. Foreign investors continued to be the biggest drivers of bond yield direction in the South African market. The All Bond Index returned -1.6% for the quarter, but returns for the last 12 months remain positive at 8.3%. Globally, the inflation dynamics have been shifting higher as a result of higher commodity prices, leading to concerns also for the local market. The shape of the yield curve has changed significantly over the quarter, normalizing further mainly in the very long end of the curve as the government continued to concentrate their bond issuances in that area. Bond yields in peripheral Europe rose as the risk of default increased in the financially distressed economies of the EU.
In the past two meetings the SARB MPC kept rates on hold, citing the current low inflation environment and the focus on supporting growth in the economy. The outlook for inflation is negative though as inflation across the globe has bottomed out due to high commodity prices especially energy prices. South Africa has seen significant petrol price increases since the beginning of the year, due to high oil prices with all the volatility in Middle East countries. There is also the threat of steep increases in administered prices locally which could place further upward pressure on inflation in the coming months. We currently maintain the view that the SARB will keep short rates on hold for most of the year, with a higher probability of an increase at the end of 2011.

Fund Review
The STANLIB Bond Fund retumed 16.71% versus the All Bond Index retum of 14.96% Major yield curve trades were an increase in the overweight position in the 12+ area from 36% to 43% of the Fund, which was funded by cash and sales of shorter dated instruments. Moving up the yield curve had an added advantage of higher yield pickup and potential capital appreciation as the yield curve is expected to flatten overtime. The modified duration of the Fund was increased from 6.4 to 6.5 years by increasing the holdings in the RSA 2026 (R 186) bond. Exposure in corporate bonds was maintained at higher levels as they continued to outperform in the fourth quarter.

Looking Ahead
Fourth quarter retums in the bond market remained modestly positive at 0.75% for the benchmark All Bond Index (ALBI) despite yields in the long end ending slightly higher. Retums for the year as a whole were 14.96%. The yield on the RSA 2020 (R207) paper ended the quarter at 8.12% after starting the fourth quarter at 7.94%, as the market reversed the gains despite the South African Reserve Bank (SARB) cutting the repo rate by a further 50 basis points to end the year at 5.5%, the lowest since 1974. Foreigners, who had flooded the local market in search of yield over the past three quarters, were mainly responsible for a higher close in yields as they ended the quarter as net sellers of R20 billion bonds, taking profits ahead of the year end. The yield curve remained positive over the quarter. The weaker close over the quarter in bond yields was in contrast to a 5.7% appreciation in the Rand which continued to surprise even the most optimistic forecasts. The bond market correlated highly with US yields which trended higher on better economic growth expectations. US Treasuries ended the quarter at 3.3% compared to the previous quarter close of 2.5%. Third quarter consumer inflation (CPI), although still at very low levels has started to show signs of bottoming out, which may curtail any further possibility of the SARB to cut the repo rate again. Expectations in the market are broadly for the SARB to keep the repo rate unchanged for 2011 with rates only being hiked early in 2012. The Rand's strength against major currencies, which occurred despite the dollar strengthening over the quarter, will however be good for inflation fundamentals as this may limit the pace of increases in future. Going forward, bond yields are expected to stay lower in the short term, but gradually start to move higher in the later part of the year.