Emerging markets are suffering a sharp pullback by investors fearful of a shock from China just as confidence in the world economy, and the euro zone in particular, rises, according to a survey of fund managers.
The monthly poll from Bank of America Merrill Lynch, published on June 18, showed that allocations to global emerging market equities in June hit their lowest level since December 2008, with a net nine percent of respondents now underweight.
A net 48 percent of fund managers reported an overweight position in equities overall, up from 41 percent in May and back above the 47 percent level seen in April. The survey, which polled 248 managers with $708 billion in assets, found that a net 25 percent placed emerging markets as the region they would most like to underweight in the coming 12 months, the lowest ever reading.
Last week, emerging markets stocks posted their fifth straight week of losses.
The fears over China come after a Reuters poll on June 18 signalled more optimism among equity analysts, and Michael Hartnett, chief investment strategist at BofA Merrill Lynch Global Research, reckoned the survey response looked overdone. "The lows in emerging market equity and commodity allocations suggest the market has over-positioned itself for a shock from China," he said. China was considered the greatest tail risk among those polled, followed by a potential failure of stimulus measures in Japan. Allocations to commodities reached a record low with a net 32 percent of those surveyed holding underweight positions.
Manish Kabra, equity strategist at Bank of America Merrill Lynch, outlined the implications of what looks like a disconnect. "It's the sentiment that is running out of anything that is linked to emerging market or the commodity cycle. If China actually surprises on the upside in the coming months there is a big bounce ready to come," Kabra said. The emerging markets gloom stood in contrast to signs of renewed confidence in prospects for the euro zone, where a net six percent of those polled are now overweight equities. That represents a 14 point swing from the underweight position from May.
The numbers are most stark among local players, with a net 45 percent of European respondents expecting the economy to strengthen in the coming year, close to double last month's result. "First of all, expectations have been very low. Anything that is based on mean reversion cannot be bad forever, then Europe is the place that is more likely to show upside surprises," said Kabra.
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