BofA Merrill Lynch Fund Manager Survey Finds Strong Sentiment Consolidating While Equity Valuations Retain Support

A net 59 percent of investors believe the global economy will strengthen in the year ahead, in line with the reading in January, which marked four consecutive months of rising sentiment. The outlook for profits has improved with a net 39 percent of the panel saying that profits worldwide will improve in the coming 12 months, up from a net 29 percent in January. The desire for higher capital expenditure is strong with 48 percent of investors saying that capex is the best use of corporate cash – the highest reading since April 2011.

Investors have indicated that they continue to perceive value in equities in light of strong market performances of early 2013. A net 13 percent of global investors still say that equities are under-valued. At the same time, a net 82 percent say bonds are overvalued, the second-highest level recorded by the survey with the highest coming at the peak of the European sovereign bond crisis in 2012.

Risk appetite has also remained steady month-on-month. Average cash balances in portfolios remain at 3.8 percent, though the net percentage of investors overweight cash has fallen to 2 percent this month from 8 percent in January, the lowest reading since February 2011.

“The continued high level of optimism is a concern and markets may be vulnerable to bad news, but valuation support suggests any correction should be short and shallow, and our core ’Great Rotation’ theme remains in play,” said Michael Hartnett, chief investment strategist at BofA Merrill Lynch Global Research. “Investors are striking a balance between the optimism over growth and caution over investment decisions. Investors have so far resisted taking an exuberant stance,” said John Bilton, European investment strategist.

Equity allocations stay high but bias shifts to defensives

Allocations towards equities have held at the highs reached in January. A net 51 percent of asset allocators remain overweight global equities. Within equities, sectoral allocations highlight a bias towards a measured easing of risk appetite with a shift towards defensive assets.

Pharmaceuticals, a traditional defensive sector, has returned to the number one sectoral pick for global investors, having been third in the pecking order a month ago. The proportion of investors overweight the sector rose to 27 percent from 11 percent in January.

Cyclical sectors become less popular. The biggest month-on-month faller was Technology, which saw a negative 12 percentage point swing in the number of investors overweight the sector. Materials also suffered a double-digit fall in the percentage of overweights. The number of respondents overweight Technology, Industrials and Energy also fell.

Sentiment towards Japanese equities normalizes

Japanese equities continue to benefit from a positive shift in sentiment by global investors. A net 7 percent of asset allocators say they are overweight Japanese equities this month, up from a net 3 percent in February. In December, a net 20 percent were underweight Japanese equities.

Local sentiment and risk appetite appears strong. A net 29 percent of Japanese investors responding to the Regional Fund Manager Survey say they are underweight cash, up from a net 5 percent one month ago. Automotives, Technology and Banks are the three most popular sectors domestically.

Global investors have indicated that their positive view towards Japan will continue. A net 21 percent of the panel says that the outlook for corporate profits in Japan is more favorable than for anywhere else, up from a net 4 percent in January. Accordingly, a net 9 percent says that Japan is the region they would most like to overweight. Two months ago, a net 17 percent said Japan was the region they most wanted to underweight.

This positive outlook comes at a time when investors see the yen as weakening, despite the fact that the currency is close to fair value based on the IMF’s definition of currency valuation. Four out of ten respondents to the global survey say that USDJPY rising to 100 is likely to happen before a U.S. debt downgrade, a Spanish bailout or gold breaking through $2,000 per ounce.