Fund manager cash levels remained high in August as more global fund managers became bearish over the outlook for corporate earnings and operating margins, according to the BofA Merrill Lynch Fund Manager Survey.
The average cash balance for the global fund managers was at 4.9 per cent unchanged from the prior month, but above the 10-year average of 4.5 per cent.
Despite high levels of cash the indicator remains in ‘buy’ territory, according to the firm’s Fund Manager Survey Cash Rule, where anything above 4.5 per cent represents a contrarian buy signal for equities.
Indeed, managers who said they were overweight cash rose to 36 per cent in August from 34 per cent in July, a nine-month high.
Additionally, the percentage of managers expecting a rise in profits over the next 12 months fell by eight percentage points from July to 33 per cent – the lowest level since November 2015.
The survey also found that the outlook for corporate operating margins also stalled during August as 2 per cent of respondents said they would not increase over the next 12 months.
Source: Bank of America Merrill Lynch
Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch, said: “Investors’ expectations of corporate profits have taken an ominous turn this year, which is a warning sign for equities over bonds, high yield over investment grade, and cyclical sectors over defensive ones. Further deterioration is likely to cause risk-off trades.”
Ronan Carr, European equity strategist, added: “Fund managers are holding on to cash at a stubbornly high level. Even so, European investors are positive on the growth outlook in the region but are moderating EPS expectations.”
Wider concerns over equity market valuations were also reflected in the survey, as 46 per cent said markets were overvalued, a record high for the survey.
As such allocation to equities fell for the third month running this month to a net 36 per cent overweight.
Despite some concern over the prospect for equities, 36 per cent said they had not bought equity hedges to protect against a sharp fall in markets during the next three months.
Indeed, the bank’s Global FMS Macro Indicator remains in neutral territory despite falling in the most recent survey.
BofA Merrill Lynch Fund Manager Survey Macro Indicator
Source: Bank of America Merrill Lynch
The indicator is a year-on-year measure comprises five components: investor inflation expectations, capex demand, risk appetite, cyclicals vs defensive sector positioning and equity vs bond positioning.
On a regional basis, managers remained cautious over US equity valuations. Allocation fell to a 22 per cent underweight from 20 per cent in July.
“The last time the underweight in US stocks was larger was in January 2008,” the bank noted.
Meanwhile, allocation to eurozone equities rose to 56 per cent from a 54 per cent overweight in July. Allocation to emerging market and Japanese equities also increased over the month.
As the ongoing challenges facing the UK economy continue amid Brexit negotiations, allocation to the market fell to its lowest level since November 2008. Underweight positions to UK stocks fell from 30 per cent in July to 37 per cent this month. Indeed, the UK trade represents the biggest short position relative to the survey’s history.
On a sector basis, global investors continued to favour banks, technology, pharma, insurance and industrials in August, while underweights were maintained in the utilities, telecoms, staples and energy sectors.
The banking sector is the largest long trade relative to the survey history. Allocations to the sector increased from 29 per cent in July to a record high of 32 per cent in August.
While managers were still underweight, defensive positioning to telecoms, consumer staples and utilities has increased over the course of the year: rising from a 26 per cent underweight in December 2016 to an 18 per cent underweight this month.
Rising valuations for technology companies and the FANG stocks – Facebook, Amazon, Netflix, and Google – in particular has been a concern for many investors.
This was reflected in global fund manager allocations during August, where the sector fell from a 28 per cent overweight to 24 per cent, a three-year low.
The biggest tail risk for markets identified by global fund managers was a policy mistake by the Federal Reserve or European Central Bank, closely followed by a crash in global bond markets and North Korea.
Source: Bank of America Merrill Lynch
Recession would be the biggest surprise for fund managers over the next six months, followed by inflation, and an equity bear market. The least surprising event for respondents over the coming six months would be an equity bubble.