Brian BollenCash is king as investors walk the line. This is one of the eye-catching headlines in the just-published global fund manager survey from Bank of America Merrill Lynch, just one of a rash of comments made today by investment specialists suggesting markets are on the turn.
Risk appetite remains equivocal with global cash balances still high at 4.9% despite a clear inflection point lower in global growth/earnings per share estimates.
Fund managers are also taking out more protection. Asked why, 45% of those who responded highlighted a bearish view on markets.
Bond markets and Fed/ECB most likely sources of hurt
A bond market crash and/or Federal Reserve/European Central Bank policy mistake are seen as most likely to leave markets in troublesome waters. One such trigger could be the upcoming Fed balance sheet reduction.
A notable minority of 31% think this could be a risk-off event pushing bond yields higher and equities lower. Yet until 10-year Treasury yields climb the wall of 3%, few investors think Treasuries will cause an equity bear market (currently 2.32%).
Key takeaways
- Investors turn incrementally more cautious on macro
- Cash stays king on fears of a market correction
- Bond markets and Fed/ECB most likely sources of any hurt
- But not unless 10-year Treasury pushes past 3%
- Eurozone: allocation still at contrarian high
- Banks join tech as most overweight equity sectors
- Staples/bond proxies least loved
Eurozone: macro optimism wanes, ECB's inflation blues?
Investors have tempered their optimism on European macro, notably earnings expectations. A net 54% expect higher earnings per share growth over the next 12 months versus 64% last month.
By contrast, a net 78% expect inflation to rise and a net 65% said monetary policy is too stimulative (the April 2017 peak was 68%), putting European Central Bank president Draghi's signalling powers to the test.
“Fund managers’ biggest fears are a shock coming from bond markets or central banks,” said Michael Hartnett, chief investment strategist. “Too many investors see the Fed as a likely negative catalyst.”
Euro/US dollar interesting
Jordan Hiscott, chief trader at currency trading specialist ayondo markets, cites president Draghi as one of the reasons why it is an interesting time for the euro/US dollar currency trade.
Speculative shorts have dramatically reduced as mean reversion traders get caught on the extended move higher. One catalyst has been the prediction that Mario Draghi will take a hawkish approach at the ECB rate meeting on Thursday, he suggests.
“Could the possibility of starting a tapering of sorts as early as September derail the fragile positive growth sentiment we have seen recently?” he asks.
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Eurozone-US allocation circle unbroken, for now
Returning to the BAML fund manager survey, the persistent overweight allocation in the eurozone versus US equities could be more bad news for European investors.
The three-month average for allocation is above 50% and, at 57%, is a record high. This is often a contrarian signal, caution the authors. Eurozone equities have definitely struggled relative to the US, and drifted lower in absolute terms, since the allocation peaked in May.
However, the analysts making up the team stay positive on a six-month view given the mid-cycle backdrop and free cash flow growth.
Key themes
- Long rates/short bond proxies
- Selective cyclicality & quality
- Value>growth
Bearishness in the air
Bearishness is, then, very much in the air. Almost literally in a note out today from Jean-Paul Jaegers of Prudential Portfolio Management Group.
We have been in a period of stability, where the macro developments have been like the porridge in Goldilocks and the three bears: not too hot and not too cold. The volatility in macro data has generally been low recently, reducing some elements of ‘surprise’.
Generally the surprises have come from elections, or referendums, and less so from the macro data itself.
Mirroring volatility
This reduction in the macro volatility in some key measures is partially mirrored by asset price volatility dropping to exceedingly low levels (realised volatility as well as implied volatility).
In this context, it is probably good to be looking out for possible shifts out of the Goldilocks environment. History and behavioural finance tell us to do the opposite at extremes, he advises. Be contrarian once you observe extremes, he concludes.
