Funds Managed by: AKD Investment Management Ltd. 1st Quarter Report September 30, 2010 (Un-audited) Partner with AKDIML, Benefit from our Experience AKD AKD AKD Income Fund Opportunity Fund Index Tracker Fund AKD Investment Management Ltd. AKD Opportunity Fund Financial Statements - First Quarter FY11 Contents 32 Fund Information 33 Fund Managers Report 36 Condensed Interim Statement of Assets and Liabilities 37 Condensed Interim Income Statement 38 Condensed Interim Distribution Statement 39 Condensed Interim Cash Flow Statement 40 Condensed Interim Statement of Movement in Unit Holders Fund 41 Notes to and Forming Part of the Condensed Interim Financial Statements AKD AKD Opportunity Fund Opportunity Fund MANAGEMENT COMPANY LEGAL ADVISER AKD Investment Management Limited Sattar & Sattar 216-217, Attorneys -at -law Continental Trade Centre, Block-8, 3rd Floor, UBL Building, Clifton, Karachi-74000 I.I. Chundrigar Road, Karachi TRUSTEE Central Depository Company REGISTRAR of Pakistan Limited Gangjees Registrar Services (Pvt.) Ltd. CDC House 99-B, Block-B 516, Clifton Centre, S.M.C.H.S., Main Shahra-e-Faisal, Karachi. Khayaban-e-Roomi, Kehkashan, Block-5, Clifton, Karachi. BANKERS Tel: 35375714 - 35836920. Bank Alfalah Limited Bank Al-Habib Limited DISTRIBUTORS Habib Metropolitan Bank Limited AKD Investment Management Limited KASB Bank Limited AKD Securities Limited MCB Bank Limited BMA Capital Management Limited Mybank Limited IGI Investment Bank Limited Standard Chartered Bank (Pakistan) Limited The Bank of Punjab The Bank of Punjab Accesss Financial Services (Private) Limited United Bank Limited Al-Falah Securities (Private) Limited Foundation Securities (Private) Limited AUDITORS Reliance Financial Products (Private) Limited KPMG Taseer Hadi & Co. Bulls & Bulls (Private) Limited Chartered Accountants Sheikh Sultan Trust Building No. 2 RATING - AKDOF Beaumont Road, Karachi. JCR-VIS: MFR 2-Star AKD Opportunity Fund - Quarterly Report September 2010 FUND MANAGER'S REPORT Fund Performance in 1QFY11 The AKD Opportunity Fund achieved a positive return of 4.84% in 1QFY11 as compared to 3.00% for the Benchmark, the KSE-100 index. The fund thus outperformed the Index by 1.84%. The out-performance was as a result of strong showing by companies in the Refining, Utilities and Textile sectors. Gas Utilities sector delivered a stellar performance. This was on the back of positive regulatory change for companies within the sector where the regulator increased the Unaccounted for Gas (UFG) limits from 5.5% to 7%. The older UFG limits significantly hurt the profitability of the companies within the sector as the penalties associated with breaching those limits added to the cost of doing business for the companies. The increase in limits means that there will be a greater threshold for UFG to occur and hence the penalties would reduce, thereby enhancing profitability of the companies within this sector. The Refining sector, particularly National Refinery Limited, was expected to perform well owing to superior performance of the lube segment that helped the company post phenomenal profit. As a result the company was able to pay a healthy dividend that further bolstered return to shareholders. The Textile segment continued to benefit from rising cotton prices and subsequently the price of end products was duly affected. This, along with Pak Rupee depreciation, led to yet another profitable season thus benefiting the Fund with positive investment appreciation. The Fund continues to remain fully invested maintaining limited cash. Equity asset class now forms 99.55% of the total net assets which is reflective of our near term view of strong market performance owing to broad-based undervaluation of Pakistan market relative to the region. The top five sectors changed over the quarter with Chemicals (22.17%), Banks (11.76%), Oil and Gas (11.21%), Gas and Water Utilities (10.45%) and General Industries (6.20%) occupying top slots towards the end of the 1QFY11. This is in contrast to the position held in June 2010 with Chemicals (22.30%), Banks (12.44%), Oil and Gas (10.93%), Gas and Water Utilities (7.88%) and Fixed Line Telecommunications (6.17%) making up a bulk of the portfolio. The following table shows weighting deviations from the Benchmark for key sector exposures of the Fund and indicates where significant over/under performance can be attributed to. It will be noted that the large overweight positions in Chemicals and Gas and Water Utilities helped the Fund's performance in 1QFY11. The performance was further improved by Banks' underweight position as well as the over-weight position in Fixed-Line Telecommunications. On the other hand, large underweight position in the Oil and Gas E&P sector created a drag. AKDOF Key Sector Weightings vs. KSE-100 June 2010 KSE-100 Sector SECTOR O/U Weight* Performance AKDOF KSE-100 (Jun10 to Sep10) Weight Weight Chemicals 22.30% 8.49% 13.8% O-Weight 1.69% Banks 12.44% 23.28% -10.8% U-Weight -7.18% Oil & Gas 10.93% 39.10% -28.2% U-Weight 1.23% Gas Water & Utilites 7.88% 1.06% 6.8% O-Weight 43.68% Fixed Line Telecommunication 6.17% 3.80% 2.4% O-Weight 5.02% *O/U: Over/Under Weight 33 AKD Opportunity Fund - Quarterly Report September 2010 Equity Market Dynamics During the period under review (July 01 - Sep 30, 2010) the KSE-100 Index showed a gain of 3.0%. This was actually a mediocre performance given that emerging markets in general and Asian markets in particular, saw record inflows of Foreign Portfolio Investment (FPI) during the last quarter. Macro economic weakness, lack of movement towards structural reforms (RGST, Circular Debt, high government borrowing) and stand off between the Judiciary and the Executive branches of government kept Pakistan discount to regional markets at an elevated level. Indeed, it is unfortunate that at a time when global capital flows are heading towards emerging markets, especially Asia, lack of focus on economic reforms is causing Pakistan to miss out on a huge opportunity to attract investment. This window of opportunity is narrow. There is strong evidence over many decades that when developed markets' - especially the U.S. - monetary policy is loose and interest rates low, as is the case at present, capital flows into riskier asset classes such as emerging market debt and equities. In Pakistan, there is hardly any depth in the debt (Fixed Income) market, so our capital market is effectively the stock market. And here we are missing out in a big way because of government's inability to tackle serious economic imbalances and governance issues. These opportunities are not easily recurring. If we miss them now, it may be a long time before we get another window of opportunity. By that time, the world would have moved on far ahead. In today's era with rapid technology driven progress, even standing still means being left behind. For domestic stock market investors whether direct, or indirect via equity mutual funds such as the AKDOF, there is however a silver lining in the near term despite lack of longer term visibility regarding the macro environment. Stocks markets are driven by a combination of factors. Chief amongst them being sentiment, liquidity, valuations and earnings outlook, as well as returns on competing investments ranging from 'risk free' government securities, bank deposits, NSS, to gold, foreign currency (via exchange rate changes), real estate and other alternative investments. In the case of Pakistan stock market, general sentiment remains cautious due to macro level uncertainties - both economic and socio political. However, the outlook for corporate earnings has been improving and with it the valuation attractiveness. For example, the EPS growth for KSE-100 companies bounced back from below 5% in 2009 to over 18% in 2010. At the same time, for non-financial universe, gross margin reverted back to 18.2% in 2010 versus 17.4% in 2009 and net margin improved to 7.3% from 7.0% during this period. Going forward, despite initial setbacks due to recent flooding, corporate sector represented in the KSE-100 is showing signs of quick recovery. As a result, forward PER (FY11) for KSE-100 is close to 8x. This compares to an average of 17x for Asian emerging markets. Thus on valuation basis, the Pakistan market discount to the region is at the larger end of its historic range at present. If one excludes OGDC, the forward PER is near 7x, implying an earnings yield of over 14% and indicating even more attractive valuation. 34 AKD Opportunity Fund - Quarterly Report September 2010 In terms of liquidity, it is true that State Bank of Pakistan's tight monetary policy (high discount rate) is a negative for equities as an asset class while large government borrowing is crowding out private sector credit. Paradoxically however, while businesses are starved for credit there is a buildup of liquidity in the business community as larger, longer-term fixed investment is almost at a standstill. This includes real-estate which historically used to absorb such liquidity. With the central bank raising domestic rates continually and developed market rates, especially on US dollar, expected to remain low for some while yet, the near term risk-reward ratio favors domestic financial assets. The margin financing product expected to be implemented soon, has the potential to draw in this excess liquidity into the equity market. In tandem with the above trend of FPI flows into emerging markets, Pakistan market continues to witness the trickle down effect of inflows. If the KSE-100 advances with improved volumes in October and the margin financing product is implemented, Pakistan equities may yet show a reversal of trend in 3QCY10 when the KSE-100 ended up being the worst performing market in emerging Asia ex-Japan. Investment Strategy In view of the above our equity funds' investment strategy is to remain nearly fully deployed in the market with focus on stocks having catch-up potential in terms of valuation attractiveness but also strong fundamentals.