The global financial markets seem to have decided what the near-term future will look like and, judging by the first quarter performance of various asset classes, the next few months is likely to see steady global economic growth with moderate inflation.

Bond yields have moved up from a yield of 4.25% at the start of the year to 4.8% at quarter-end (the benchmark US 10-Year Treasury) and now, at the start of May, they stand at over 5.0%. As we expected, commodity prices in metals and energy have continued to spike. Base metals and some precious metals continue to make new highs as well. Global equity markets posted gains of 4-6% by the end of the first quarter. They then enjoyed a further rally in April. Currency markets traded in a wide range during the quarter, driven by divergence in monetary policy.

The Federal Reserve has a new Chairman in Ben Bernanke, but the message seems to be consistent – expect some further rate rises but not too many. The perennial worry about the ability of the US consumer to continue to support the rest of the globe seems to be subsiding and we are now seeing evidence of greater confidence in Europe and Asia.

Given this backdrop, the vast majority of the hedge fund indices are in positive territory for the year-to-date (to end April) with returns from the investable indices ranging from about 2.7% (HFRX Distressed Securities Index) up to 13% (S&P Managed Futures Index to 05-05-06).

Among the strategies in which GAM's Multi- Manager funds invest, performance over the first four months of the year has been driven by the three main hedge fund strategies (equity hedge, arbitrage and trading) with equity long/ short contributing the majority of the return. This strategy has been assisted by the continuing trend of rising global equities. At a regional level, European equities posted gains of over 10% for the first quarter on the back of continued positive corporate news, a high level of M&A activity (and speculation thereof) and strong global economic data. At the micro level, companies reiterate constructive outlooks for 2006, based on robust underlying demand and reasonable visibility. At the same time, valuations are reasonable. Japan, however, entered a consolidation phase, with the market moving within a 7% range three times before appearing to break out at quarter end. The range masked the surge in volatility, as small and mid-cap stocks succumbed to profit-taking. Finally, in the US, reasonable earnings growth and increasing confidence that growth remains resilient to rate tightening triggered renewed interest.

Trading strategies have also contributed good performance so far this year, largely due to a mix of clear trends in commodities, managers' well-timed shorting of fixed income and also shorting of the US dollar. The market environment for trading strategies remained positive in the first quarter and during April as trends experienced in the final quarter of 2005 continued.

In the arbitrage space we have seen good performance from a range of long volatility strategies combined with some good credit results. Volatility-orientated managers contributed solid performance in the first quarter despite generally subdued levels of market volatility. Profits came from specific credit-related positions, increases in convertible bond valuations and long positions in emerging market FX volatility. Volatility managers remain optimistic about prospects for the remainder of 2006 as there is increasing evidence of a pick-up in idiosyncratic volatility in individual stocks. Event-driven managers have made a strong start to 2006, supported by positive equity markets and continued corporate activity. This activity is likely to continue through the remainder of the year, as companies come under pressure to deliver value to shareholders. The trend towards 'activism' by hedge funds continues, as they seek to create their own catalysts for value realisation rather than wait for catalysts to materialise.

Credit managers have generally had a strong start to the year, as credit conditions continue to be benign. While most strategies expect 2006 to be better than 2005, credit managers are more cautious. Long-biased managers believe corporate credit spreads are too tight to provide appropriate risk/reward. Our bias is towards more opportunistic credit managers, who believe dispersion between the performance of individual credits will increase, providing them with opportunities to profit on both the long and short sides of their books. We continue to be concerned about strategies that are long credit risk and, as credit spreads have tightened, are using leverage to amplify returns. In fact, we have been adding allocations that are effectively "short credit" so that if credit spreads widen, we will have an opportunity to profit.

Looking forward, we remain reasonably optimistic about prospects for hedge funds for 2006. Although we expect to see more volatility in equity markets than we have done so far this year (which may well be coming to pass as we write), we feel there are further gains to be made and continue to emphasise European and Japanese equity long/short managers. We believe the clearly-stated objectives of central banks will also enable our macro managers to predict reaction to policy more effectively, giving them opportunities to profit. Finally, within our arbitrage allocation we have sought to lower the correlation with equities further whilst repositioning to benefit from any widening in credit spreads.