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Derbyshire County Council

Asset allocation summary

November 2005

Page 2

Asset allocation – November 2005

Derbyshire Old Strategy 12/8 Derbyshire Old Strategy28/11 Change

Equities Underweight (-0.2%) Overweight (+2.5%) +2.7%

UK Underweight (-0.2%) Overweight (+1.0%) +1.2%

International Neutral (0.0%) Overweight (+1.5%) +1.5%

US Overweight (+0.5%) Overweight (+2.0%) +1.5%

Europe Underweight (-2.1%) Underweight (-2.1%) -

Japan Overweight (+0.8%) Neutral (0.0%) -0.8%

Pacific Overweight (+0.8%) Overweight (+0.8%) -

Emerging Neutral (0.0%) Overweight (+0.8%) +0.8%

Fixed Interest Underweight (-3.8%) Underweight (-5.0%) -1.2%

UK Underweight (-1.6%) Underweight (-2.0%) -0.4%

US Underweight (-1.1%) Underweight (-2.0%) -0.9%

Europe ex UK Underweight (-1.1%) Underweight (-1.0%) +0.1%

Japan Neutral (0.0%) Neutral (0.0%) -

Property Neutral (0.0%) Neutral (0.0%) -

Cash Overweight (+4.0%) Overweight (+2.5%) -1.5%

Note: Table shows target weightings adapted from the weightings used in the management of the MPPL Balanced Managed Fund as adapted to comply with Derbyshire CC constraints.

Page 3

Investment outlook for 2006

Central View:Late cycle boost

40%

Inflation Trouble 20%

Oil Shock25%

Carry on Spending 10%

Wages, input prices and growth push US inflation over 3%

Short term growth stronger; weaker later

US short rates reach 5% or more in ‘06

Bond rout, 6% yield in US. $ firms, equities struggle

Economic behaviour begins to change;consumption slows; modest profits hit; no relief from central banks

Small chance of $100 oil recession

Bad for bonds and equities; $ resumes downward trend

Oil corrects c.$20 from speculative high, wage pressure eases

Upside surprise on consumer; rates re-normalise gradually

Good for equities (could suffer in 2007); bonds range bound around 5% (US); currencies stable

2006’s global scenarios focus on possible shocks to reasonable late cycle backdrop for assets

Katrina precipitates 0.5% hit to US growth Q3/Q4 2005, reconstruction adds 0.75% over Q4/Q1, net mildly positive. Oil assumed within $55-$65 range

US economic cycle extends accordingly; no recession next year, although post- hurricane sentiment is a key unknown. US consumer remains solid; Japanese recovery continues apace; strong growth in China; European consumption recovers modestly, augmenting strong exports.

Economics favour equities over bonds (Asia/US to outperform Europe/UK). Profits cycle past peak, 7-8% US profits growth. US Bond yield rises to 5%

UK assets influenced by global outlook, but some domestic factors will also be importantDon’t expect any dramatic shift downwards in UK rates

Exports to remain strong; consumption should have bottomedMPC back in ‘wait and see’ mode; August move is not the first in a line of cuts

UK bond market is expensive, but significant asset shifts provide floor10 year gilt yields should move towards 5% Credit spreads should widen, especially high yield, but structural demand will prevent rout

UK equities market are the best placed domestic asset, but strong recent gains leave little on the tableProfit growth of 9% in ’05 and 5% in ’06Valuations no longer compelling. Sentiment no longer at low levelsBig cap should outperform expensive small and mid cap

UK commercial property carries positive momentum but is becoming unattractive – trim in 2006Small risk that residential housing declines could be key to reversing sentiment

Page 4

Morley asset allocation: November 2005

EQUITIES

6-9 month view:

Neutral

Long-term return:

7-8%

Economic fundamentals

supportive

Valuations good vs.

bonds, fair vs. trend

Global support from pensions, UK over-owned

Main risk is bond market

decline

EQUITIES

short term stance:

Overweight

Growth okay, as market

recently re-discovered

US and UK short rates disappoint

market

UK/Euro/Asia markets

overbought in very short

run

Will buy into setback

UK Slight overweight, prefer big cap companies

Europe Underweight, favour Germanyover France

US Overweight, unloved short-term, limited long term value

Japan Neutral, improving domestic demand now in the price

Asia-Pacific

ex Japan

Overweight, but country selection becoming critical

Emerging

Markets

Should do okay, but Asian markets are preferred

BONDS

6-9 month view:

Underweight

Long-term return:

4-5%

Cycle unhelpful,

inflation risks

Pensions & Asia buying

props

Value very poor no risk

premia

BONDS

short term stance:

Underweight

Beginning to see sense

but more to go.

Reduce under-weight

at 4.4% UK yield, 4.5% in US, 3.5%

EU

Gilts Underweight, prefer conventionals to index-linked

Overseas

Very underweight, US bonds particularly vulnerable

Credit Investment grade better value than gilts, high yield expensive

PROPERTY6-9 month

view:

Underweight

Good demand,

value below avg u/weight

for 06

PROPERTYshort term stance:

Neutral

H2 2005 returns fine, risk-reward fades into 2006. Japanese property better value, German property improving.

CASH6-9 month

view:Overweight

Reasonable value, expect

4½% trend rate

CASHshort term stance 05-Oct-05:

Overweight

UK interest rates cut is not the start of a trend. Longer run we favour Asian currencies, which should appreciate against USD.

Page 5

UK outlook – Fiscal tightening ahead• Interest rate sentiment has turned sharply over the last two months – a 25 basis point rise is now

discounted for 2006. Although growth is reviving, this is premature.

• The steady revival in growth will allow Gordon Brown to administer a necessary fiscal tightening which, in turn, will give scope for the MPC to deliver a small monetary offset.

• Consumer spending will remain relatively subdued but is recovering. Although the debt burden and higher energy costs will hit disposable income, fundamentals are still favourable.

• 2006 should see stronger and more balanced growth. A global slowdown in 2007 now looks likely, arguing for lower interest rates again

2005q1 2005q2 2005q3 2005Q4 2004 2005 2006 2007MFM GDP growth 0.3 0.5 0.4 0.6 3.2 1.7 2.2 1.6

CPI inflation 1.7 2.0 2.4 2.3 1.4 2.3 2.0 1.6Base rate 4.75 4.75 4.50 4.50 4.75 4.50 4.25 4.00£ effective 102.4 99.4 100.3 101.3

(Note: annual CPI figures are Q4)

Consensus GDP growth 1.8 2.2 n/aCPI inflation 2.1 2.0 n/a90D £ LIBOR future (end-year) 4.6 4.8 4.9

Bank of England(from Inflation Report projections)

GDP growth 0.4 0.5 0.6 0.6 2.0 2.7 3.2CPI inflation 1.7 1.9 2.2 2.3 2.3 1.8 2.2

(Note: annual CPI figures are Q4)

Treasury(from Budget documents)

GDP growth 3 - 3.5 2.5 - 3 2.25-2.75CPI inflation (Q4) 1.75 2 2

Page 6

US outlook – New Fed chair to establish credibility• The short-term US outlook is relatively predictable: growth will be weak in 4Q2005

and strong in 1H2006. Consumption could be flat or worse in 4Q2005. But GDP will be supported by inventory rebuilding. The rebound in 1H2006 will be driven by residential and non-residential construction plus government rebuilding activity.

• Meanwhile, the current conjuncture calls for higher inflation and higher interest rates. Fed officials have taken every opportunity to warn about the dangers of inflation. High oil prices and a fiscal boost is part of this inflationary outlook. The Fed chairman designate is due to take over in February with a need to establish his credibility. In addition, the economy is already operating above its potential. Rates will have to go beyond neutral.

• The response of inflation and the housing market to higher interest rates will drive the outlook going forward. Our central case assumes a moderate hike in inflation and a mild correction to the housing market. A sharp downturn would tip the outcome towards the bubble bursting scenario. The soft-landing of housing markets in the Netherlands, Australia and the UK would suggest that a sharp correction can be avoided.

• Should a recession happen, there is no fiscal surplus or a positive household savings rate to draw on to cushion the decline.

• In the short term, higher interest rates will provide some support for the dollar. With the substantial external financing requirement, longer term worry about the exchange value of the dollar remains. Dollar weakness will resurface once growth slows.

Page 7

US forecast summary

(Constant prices, %yoy) 2001 2002 2003 2004 2005f 2006f 2007fGDP 0.8 1.6 2.7 4.2 3.6 3.2 2.4Private consumption (C) 2.5 2.7 2.9 3.9 3.5 2.4 2.6Private investment (I) -8.0 -2.7 3.6 11.8 5.8 7.3 0.7 Non-residential investment -4.2 -9.2 1.3 9.4 8.8 9.0 2.7 Residential investment 0.4 4.8 8.4 10.3 6.6 -0.6 -3.9 Change in stocks (% GDP) -0.3 0.1 0.1 0.5 0.1 0.4 0.3Net exports (% GDP) -4.0 -4.7 -5.1 -5.6 -5.6 -5.7 -5.5 Exports -5.4 -2.3 1.8 8.4 6.9 7.9 7.8 Imports -2.7 3.4 4.6 10.7 5.8 7.0 4.7Government expenditure (G) 3.4 4.4 2.8 2.2 2.1 2.9 2.2Domestic demand (C+I+G) 0.9 2.2 3.0 4.7 3.6 3.3 2.2Domestic sales (Ex stocks) 1.8 1.7 3.0 4.4 3.9 3.1 2.2Fed funds rate (end-year %) 1.8 1.25 1.00 2.25 4.25 4.75 4.25CPI (%yoy) 2.8 1.6 2.3 2.7 3.3 2.4 2.1CPI core (%yoy) 2.7 2.3 1.5 1.8 2.2 2.4 2.1Unemployment rate (end-year %) 5.5 5.9 5.9 5.4 5.0 5.2 5.5Savings rate (annual average %) 1.8 2.4 2.1 1.8 -0.1 0.3 0.3Current account (% GDP) -3.8 -4.5 -4.7 -5.7 -6.5 -6.7 -6.5

Page 8

European outlook – ECB almost ready to move

• The combination of higher inflation, solid activity indicators and upbeat surveys has pushed the ECB back into tightening mode.

• The latest real activity numbers have been encouraging, especially in the export-orientated industrial sector.

• Surveys provide a consistent picture of improving sentiment and argue for continued stronger growth in Q4 and in early 2006.

• Domestic demand remains sluggish, but is recovering very slowly. The longer the upswing goes on, the more likely that domestic demand will play a bigger role. This is something of which the ECB is well aware – they will be keen to avoid choking it off prematurely.

• Inflation is still a concern – the Bank is rightly worried about second-round effects and has stressed that focusing solely on “core” inflation rates is not wise.

2005q1 2005q2 2005q3 2005q4 2003 2004 2005 2006 2007MFM GDP growth 0.4 0.3 0.6 0.6 0.7 1.8 1.5 2.0 1.4

Headline inflation 2.0 2.0 2.3 2.4 2.1 2.1 2.2 2.2 1.9Core inflation 1.6 1.5 1.4 1.5 2.0 2.1 1.5 2.0 1.8Repo rate 2.00 2.00 2.00 2.00 2.00 2.00 2.00 3.00 2.50$/€ 1.31 1.26 1.22 1.16 1.19 1.30 1.16 1.11 1.05

Consensus GDP growth 1.7 1.3 1.6 n/aInflation (headline) 2.1 2.2 1.9 n/aRepo rate 2.00 2.44 3.00 3.23

Page 9

Japanese outlook – Above-trend growth to slow

• The current expansion in Japan remains solid. Strong domestic demand growth is underpinned by solid employment and income growth. In addition, export performance has improved as the expansions in the US, Europe and Asia remain intact.

• But the growth rate going forward will slow. This is because 1) The US and world trade cycle will slow with rising interest rates and higher oil prices. 2) Domestic tax and social contributions will rise further. 3) Corporate profit growth has decelerated, which will affect investment and annual bonus payments going forward.

• Japan is not yet free from deflation. But our forecast of steady improvement will stop the decline in consumer prices within 12 months.

• The zero interest rate policy (ZIRP) will end in 2007. But rates will rise slowly. Given the large fiscal deficit (about 6% of GDP), if there is a need to tighten economic policy, it is far more likely to happen on the fiscal rather than on the monetary front.

• The risks are finely balance. On the downside, as always, is premature policy tightening, or some unexpected political event that would put caution back into the corporate sector. On the upside, the banking sector is now solvent and capable of conducting credit expansion. Should that happens in earnest, growth would be stronger than our central forecast for a number of years.

Page 10

Japanese forecast summary

%change year ago 2001 2002 2003 2004 2005 2006 2007Private Consumption 1.1 0.5 0.2 1.5 1.8 1.8 1.8Residential Investment -5.3 -4.3 -1.1 2.2 -0.9 2.4 3.9Non-Resi. Investment 0.6 -6.6 6.6 5.6 7.4 3.5 2.5Private Inventory (%GDP) 0.01 -0.19 -0.02 0.16 0.38 0.08 0.09Government Consumption 3.0 2.6 1.2 2.7 2.0 1.0 1.0Public Investment -4.6 -4.3 -10.6 -10.8 -7.7 -2.7 -3.5Public Inventory (%GDP) 0.00 0.00 0.00 0.01 0.03 0.03 0.03Net Exports (contri to growth) -0.6 0.6 0.6 0.8 0.0 0.0 -0.1Exports -6.0 7.2 9.1 14.5 6.7 8.0 4.2Imports -0.7 1.2 3.8 8.9 8.2 9.8 5.8GDE (=GDP) 0.2 -0.3 1.4 2.6 2.3 1.5 1.5 Fiscal year -1.1 0.8 2.1 1.8 2.5 1.5 1.5Domestic demand 0.8 -0.9 0.8 1.9 2.4 1.4 1.6GFCF -1.6 -5.7 1.1 1.4 3.2 2.2 1.7Public sector (contri to growth) 0.1 0.1 -0.3 -0.4 0.2 0.0 0.0