23rd September 2013
The latest BofA Merill Lynch Fund Manager survey suggests global fund managers are finally starting to return to European equities, after five years shunning the asset class writes Cherry Reynard. The sector recorded its highest popularity rating since before the credit crisis. The survey also showed emerging market equities at all time lows of popularity. The logical response would be to dive into European equities and ditch any lingering emerging market exposure, but to what extent have previous surveys proved predictive of future returns?
The September survey found a net 36% of global asset allocators overweight Europe, more than double their overweight position in August. The authors of the survey said that fund managers had been reassured by improving growth prospects in the region – the Eurozone recorded its first economic growth in August after six negative quarters. A net 27% of investors say that the Eurozone is the region they would most like to overweight in the next 12 months, the highest reading since 2007.
Emerging markets remain unpopular, with a net 18 percent of the panel holding an underweight position. This is in spite of the fact that the majority of asset allocators believe that emerging markets are the most undervalued of all markets. This is the strongest reading since 2004. However, there were signs that sentiment had at least stopped getting any worse. Many asset allocators now believe that there is likely to be an improvement in the Chinese economy with the most significant turnaround in opinions coming from those based in Asia. There has also been a decrease in the underweight position in commodities since June.
Some investors have been suggesting that the current valuations for emerging markets represents a ‘great contrarian opportunity’. a Business Week reports. “In many ways, investors in emerging markets have priced in a crisis event, even though no actual event has actually occurred, as in 1997 and 1998,” says Michael Gayed, co-portfolio manager of the ATAC Inflation Rotation Fund, who thinks the sector is coiled for a big rebound. “If the markets of developed economies are indeed correct about future growth, it would be illogical to assume that their emerging-market suppliers do not participate and their stocks do not get pulled higher.”
This raises the question of whether the survey can actually be a contrarian indicator of the fortunes of different asset classes i.e. asset classes that have been shunned may be a buy and vice verse. As if to bear this out, the survey results in December 2012 stated: “Emerging markets are the preferred region for the panel. Optimism about China’s economy has reached the highest level recorded by this survey. A net 67 percent of the regional survey respondents say China’s economy will strengthen in the coming year, up from a net 51 percent in November. A net 38 percent of asset allocators are overweight emerging market equities, double the level of September’s survey.”
Indeed, since the start of the year, emerging markets have been the worst performing IMA sector, with the average fund down 0.5%. It is worth comparing this to the Europe ex UK sector, which asset allocators were still shunning at the time, where the average fund has risen 21.3%. China, where according to Michael Hartnett, chief investment strategist at BofA Merrill Lynch the ‘bulls were back’ in December 2012, fared a little better, with the average fund up 7.5%, but still substantially worse than any developed market sector.
What of the longer term? In December 2010, the survey found: “With Europe’s sovereign debt crisis continuing, investors are turning to U.S. equities. A net 16 percent of asset allocators are overweight U.S. stocks up from a net 1 percent in November. A net 4 percent are underweight Eurozone equities, compared with a net 15 percent overweight in November. A net 26 percent of European respondents expect the region’s economy to improve in 2011, up from a net 23 percent in November. A net 34 percent are forecasting earnings per share to grow next year, compared with a net 29 percent a month previously.” In this case, global asset allocators had it right on US equities, where the average fund is up 50.5%, only trumped by Japan and UK smaller companies, but wrong on European equities.
At the margin the survey can be a good short-term indicator of sentiment and therefore if asset allocators are universally bullish on an asset class, it suggests that it may be incorporated into the price of shares. Equally, it can hint at an opportunity if asset allocators are universally bearish, particularly if negative sentiment is stabilising. This would point towards opportunities in emerging markets.
However, many experts have yet to be convinced. Andy Merricks, head of Investments, Skerritt Consultants, is completely out of emerging markets, believing that the correlation between commodities and emerging markets has historically been very tight and because commodities are slowing, emerging market growth will continue to weaken. Paul Niven, Head of Multi-Asset Investment at F&C Investments, admits that valuations are ‘superb’, but is maintaining a neutral position because growth continues to disappoint. However, for those feeling brave, the fact that emerging markets remain so unloved could represent an entry point.