Merrill's Global Fund Manager Survey

The heads were quite hot last month, but now we have got a bit of fresh shower. Though, Greek bail-out complacency prevails:

China & Greece chill January's excess optimism

The February FMS reverses the excess optimism on January. All growth and risk indicators moved lower: global growth diffusion index (DI) dropped from +72% to +51% and investors raised cash balances from 3.4% to 4.0%. February sentiment is cautious enough to steady markets but is not yet pessimistic enough for an unambiguous contrarian buy signal. Note two-thirds of our panel believe Greek default is unlikely, with 58% seeing a last minute bail out as most likely.

Three sentiment extremes to watch

First, the "double-dip" plunge in Chinese growth expectations (growth expectations cratered from +51% to +7%, lowest since March '09). Second, the collapse in European bank overweight from -16% to -53%. Third, investor optimism on the US dollar (a net 57%) is at a 10-year high. Reversals in Chinese equities, European banks and/or the dollar would signal ‘correction over’.

Consensus more bullish on rates

In reaction to the perceived growth shock, 42% of panellists now expect the Fed to be on hold until 2011 (vs. just 17% last November), and 45% expect the ECB to do nothing until 2011 (up from 17% in December).

Asset allocators cut equities, raise cash and bonds

In February, a net 33% of asset allocators were overweight equities, down sharply from +52% last month. Cash was raised with allocators now 12% overweight cash vs. 8% underweight last month. The proportion underweight bonds fell to -39%, from -48%, back to December levels. With a nod to changing China sentiment commodity overweights halved to +10% from +23% in January. Gold is viewed as overvalued (net 15%) but oil is now seen as undervalued (18% vs. 1% in Jan.).

The pain trades

Contrarian investors should be positioned for the following: US dollar depreciation, yen or Euro appreciation, global bank outperformance, tech sector underperformance, UK equity outperformance, lower bond yields. Elsewhere sentiment on EM looks more balanced, exposure to US equities is notably lagging US dollar optimism, telecoms and utilities are the better laggard defensives.

Growth expectations already peaked? Click on chart to enlarge, courtesy of Bank of America Merrill Lynch.

Watch the China equities, European banks and the dollar!