That's the way Outlook 2003 works. Outlook 2007 is the first version to display pictures in a folder view.

Peter, I had the same problem with 2003. Couldn't even find the photo I
supposedly inserted into a contact. But  I found a trick that seems to work.
Open the photo in Paint. I had saved mine in PNG format and it worked; can't
say about others. Now using the dotted box "Select" button, pick a point in
the photo, left click and hold down, drag to frame as much of the photo as
you want. Let go of the left click, move the cursor to the middle of the
selected area, right click, click "copy." Go to Outlook, open the contact you
want, under the general tag there's a large unlabeled white box to the right
which is I guess for general notes. Left click in that box. Right click and
select paste. Bingo! you've got a photo and not a link to a phot. You can
even resize it by left clicking and dragging. I don't know if you can do this
in all formats but Paint let's you save in PNG and I know that works.