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Investors concerned that global economic recovery could falter, according to BoAML Fund Manager Survey

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Investor optimism over the global economic recovery and corporate profits has been dented as the tail risk associated with the US economy has escalated.

Investor sentiment towards Europe though, has improved, according to the BofA Merrill Lynch (BoAML) Fund Manager Survey for October, taken from 4-10 October, which showed that the number of investors believing the global economy will strengthen had fallen to a net 54 per cent from a net 69 per cent in September, albeit still at historically strong levels. A net 71 per cent expect the economic growth to remain "below trend" in the coming 12 months, up from a net 61 per cent a month ago. Concern about US fiscal tightening is now the number one tail risk for 24 per cent of the panel, up from only 6 per cent in September.

Expectations for a recovery in corporate profits have also fallen. Last month, a net 41 per cent says they expected corporate profits worldwide would improve in the following 12 months – that figure has tumbled to a net 28 per cent in October. A net 18 per cent believes that corporate profit margins will decrease in the coming year, up from a net 11 per cent a month ago.

Asset allocators have scaled back their equity holdings. A net 49 per cent of global asset allocators are overweight equities, down from a net 60 per cent in September. Over the past month, investors have reduced their positions in eight out of the 11 sectors monitored by the survey. Last month, a net 9 per cent of the panel remained overweight U.S. equities, and this month, that measure has dropped to zero per cent. At the same time, investors have shifted back towards fixed income, scaling back their underweight positions in bonds and portfolio cash levels rose.

"Events in Washington clearly caused investors to shift back towards their benchmarks, but asset price gains can still be driven by high cash levels," says Michael Hartnett, chief investment strategist at BofA Merrill Lynch Global Research. "Strong flows into Europe would call for a touch of near-term caution, but solid macro momentum in the region suggests that any dips in EU equity markets would be enthusiastically bought," says John Bilton, European investment strategist.

Europe has been able to avoid the downward shift in global sentiment with equity allocations reaching a six-year high. A net 46 per cent of asset allocators are overweight European equities, up from a net 36 per cent September and representing the highest reading since 2007.

Global investors' outlook for European corporate profits has continued to rise uninterrupted by events in Washington. It is now at its most positive level since September 2007. A net 10 per cent of the panel says the eurozone is the region with the most favourable outlook, up from two months ago when a net 5 per cent forecast falling profits.

Positivity towards corporate Europe is also evident within the region. In August, a net 55 per cent of European respondents to the regional survey says double-digit growth was unlikely in the following year. This month, a net 6 per cent says that double-digit earnings growth is likely – a two-month swing of 61 net percentage points.

Japanese equities have also resisted the global trend in October to record a second successive month of improvement. A net 30 per cent of global asset allocators are overweight the region, up from a net 22 per cent in September.

Investors and asset allocators have increased allocations towards global emerging market equities and have indicated in October's survey that they see value in the region. The signals towards global emerging markets are not universally positive, however.

Asset allocators scaled back their underweight positions. A net 10 per cent of the panel was underweight emerging markets equities in October, improved from a net 18 per cent underweight a month ago. On average, a net 26 per cent of investors have been overweight the region.

A net 38 per cent of the global respondents say that emerging markets equities are the most undervalued of all the regions – in contrast, a net 63 per cent says the U.S. is the most overvalued region. The amount of investors naming emerging markets as the region they most want to underweight continued to fall.

At the same time, however, the outlook for China's economy worsened. A net 5 per cent of regional fund managers expect the Chinese economy to strengthen in the coming year, down from a net 28 per cent in September. And asset allocators further reduced their exposure to commodities – an important proxy for emerging market sentiment. A net 28 per cent of asset allocators are underweight commodities, compared with a net 16 per cent in September.
 

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