Global Investors Doubting Strength of Recovery as Cash Levels Rise Again

Global investors have increased cash and scaled back risk-taking, amid fears of geopolitical instability and questions about the strength of the global economic recovery, according to the BofA Merrill Lynch Fund Manager Survey for May.

Investors are sitting on more cash and have reduced equity holdings compared to a month ago. Average cash levels have reached 5 percent of portfolios – the highest level since June 2012 and up from 4.8 percent in April.

A net 22 percent are taking below normal levels of risk, up from 11 percent a month ago. The proportion of asset allocators overweight equities has fallen to a net 37 percent from a net 45 percent last month.

Respondents to the global survey are confident that both the world economy and corporate performance are improving, but question the rate of growth.

A net 66 percent of the panel expects the economy to strengthen in the coming 12 months, up from a net 62 percent in April. A net 49 percent say that corporate profits will rise in the coming year, up five percentage points month-on-month.

But nearly three-quarters (72 percent) predict “below trend” growth for the global economy, and a net 20 percent say it’s unlikely corporate profits will grow by 10 percent or more in the year ahead.

Investors also see two major risks to market stability. One-third of the global panel believes that the risk of Chinese debt defaults poses the biggest tail risk. And 36 percent say a geopolitical crisis is the greatest threat.

“Investors are showing belief in the economy but with two big question marks: Are we on the brink of a disruptive event? And why, at this point in the cycle, isn’t this recovery stronger?” says Michael Hartnett, chief investment strategist at BofA Merrill Lynch Global Research.

“Specifically, within Europe, investors are all aboard the periphery train, and there’s now simply no margin for error. Spanish and Italian equities are preferred over those in the U.K. and Switzerland, while eurozone periphery debt is seen as the most crowded trade globally,” says Obe Ejikeme, European equity and quantitative strategist.

Momentum builds behind Europe

European equities have bucked the broader monthly trend of seeing allocations scaled back, and investors have indicated the positive flows should continue.

A net 36 percent of global asset allocators say they are overweight eurozone equities, up from a net 30 percent in April. Allocations to other developed markets, namely the U.S. and Japan, fell month-on-month.

Europe is also the region most in favor looking ahead. A net 28 percent say that it’s the region they most want to overweight in the coming 12 months, up from a net 23 percent a month ago. A net 14 percent say that European equities are undervalued.

The U.S. is the least-favored region with a net 18 percent saying it’s the region they most want to underweight, up from a net 9 percent in April.

Forward-looking sentiment for emerging markets has improved slightly over the past month and a net 3 percent say it’s the region the most want to overweight.

Nonetheless, the panel has sounded two warnings about European assets. First is that significantly more investors say that being long EU periphery debt is the most crowded trade – 35 percent of the panel take that view this month, up from 19 percent in April.

Investors also continue to see the euro as the most overvalued currency, with 58 percent of the panel taking that view ahead of ECB governor Mario Draghi hinting towards policies that could lead to weakness in the euro.

European investors’ view of their region reflects the global perspective. They forecast economic growth, but a net 30 percent predict less than 10 percent corporate profit growth in the region. Average cash balances have risen to 4.8 percent, from 3.8 percent in April.

Global sector switches reflect risk-off stance

Changes in global sectoral equity allocations from April to May reinforced the sense of investors scaling back risk. The biggest positive swings were towards Utilities and Energy, with a net 15 percent of investors increasing their allocations to these more defensive sectors.

A net 14 percent of investors scaled back positions in Banks, and a net 8 percent reduced holdings in Technology.

Chicken and egg question over putting cash to work

While investors have increased their cash levels close to two-year highs, they remain keen to see companies put their cash to work.

A net 66 percent of the global panel says that corporates are under-investing, up two percentage points on April’s figure. And 60 percent say that “increasing capital spending” is the best use of cash flow, up from 58 percent last month.

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