Our investment philosophy is to add value primarily through stock selection.

As a natural consequence, the country allocation of the portfolio tends to deviate from that of the benchmark index. While one im-portant aspect of country/sector allocation is to control risks relative to the benchmark, we also believe we can add value through country allocation on a medium-to long-term basis. Hence, we make country allocation decisions from a strategic viewpoint.

Non-inflationary economic expansion has continued in the US. Broad-ly, efficient markets have enabled US industries to adjust to a new globally competitive environment. Meanwhile, the anaemic economies of Japan and Continental Europe have failed to recover substantially. In Japan, des-pite repeated attempts at reflation through conventional cyclical measures, these policy stimuli have mostly been eroded by deflationary forces arising from structural problems, the core of which is debt overhang. In Europe, high unemployment and fiscal contraction have hindered growth.

This growth disparity between the US and other industrialised countries has caused major capital flows from Japan and, to a lesser extent, from Continental Europe to the US. An excess inflow to the US has spilt over to South-East Asia and other emerging areas, generally supporting the dollar.

Recent currency turmoil in South- East Asia is due to fundamental and structural reasons. Pegged currency strategies have eroded countries' competitive edge, and have also re-sulted in excess liquidity, which provided a basis for property speculation.

These trends are unlikely to change drastically over the coming year. Excess capacity in Japan, Continental Europe and South-East Asia, means global inflation will remain generally stable. If we include China, excess capacity is enormous. A tight labour market is a major source of inflationary fear in the US, but excess capacity elsewhere and the prospective strength of the dollar should counteract this. Thus, we still do not expect an imminent Fed tightening. Japan is likely to undergo a mild slowdown in growth under the tight fiscal policy. In Continental Europe, a successful start for a broad Euro, including the Med-iterranean countries, would require a somewhat weaker Deutschmark. Consequently, the Bundesbank is unlikely to tighten interest rates significantly.

Overall, we do not expect any no-table deterioration in economic fundamentals. However, valuations are overstretched in most markets.