Merrill Lynch's Survey of Fund Managers for November 2008 shows investors remain unconvinced that a spate of policy measures from governments and central banks can combat global recession, and are retaining defensive positions.

The survey shows that four out of five investors believe that the world will continue to experience recession over the coming year. Policy makers have offered fiscal stimulus packages, liquidity and interest rate cuts, but investors are not yet ready to give their policies the benefit of the doubt. Forty percent of the panel still believe that monetary policy is "too restrictive" and asset allocators remain overweight cash and bonds relative to equities.

"Investors remain embedded in a defensive asset allocation mindset. Many acknowledge the global policy response seen in recent weeks, but fear of deflation may be keeping them on the sideline," said Gary Baker, head of EMEA equity strategy at Merrill Lynch. "This could start to look risky as the determination of government fiscal responses allied to further monetary easing starts to play through into sector preferences."

U.S. and Chinese Equities Favoured Despite Economic Outlook; Japanese Yen "Overvalued"
Global equity markets continue to struggle with high levels of risk aversion and currency market volatility. The November survey showed investors believed the Japanese yen was "overvalued" for the first time in over five years.

"The yen is a global barometer of risk appetite. Its strength is a sign investors remain very risk averse," said Michael Hartnett, chief emerging markets equity strategist.

Equity investors are turning to U.S. equities, where the outlook for corporate profits is the "most favourable": a net 36 percent of asset allocators are overweight U.S. equities, the most widespread exposure to U.S. stocks in more than a decade. In contrast, asset allocators are underweight European and Asian equity markets.

Concern at the macro economic outlook of China was evident. A net 85 percent of panellists who focus on Asia or emerging markets expect the Chinese economy to weaken in the next 12 months. At the same time, Asian and emerging market investors favour China over any other country in their universe and have been moving into the market in force. A net 67 percent of regional respondents are overweight Chinese equities, up from an underweight position just three months ago.

"China is currently seen as the sole Asian beneficiary of policy stimulus and falling oil prices," said Hartnett.

Rate Cuts Fail to Lift Gloom Over Europe
Action by the European Central Bank and the Bank of England to cut interest rates has failed to lift either the sense of pessimism about Europe's economy or prospects for the region's equities. The eurozone is at the bottom of the list of regions that investors would most like to overweight.

In spite of policy measures, a gross 89 percent of investors expect Europe's economy to be in recession in the next 12 months, up from a gross 23 percent in June. Furthermore, a net 58 percent still say that Europe's monetary policy is too restrictive, suggesting a focus on rapidly slowing growth, rather than inflation. In June, more than half believed that inflation would be higher over a 12-month period. However, in November's survey, 92 percent of panellists expect inflation to be lower 12 months from now.

"Amid a determined search for growth, investors are apparently turning a blind eye to the risk of inflation," said Karen Olney, lead European equities strategist at Merrill Lynch."In just five months, investors have performed a U-turn on the issue. At some point, the scale of monetary, credit and fiscal stimulus injected globally could put this view at risk."

Defensive Stance Intensifies
Against a background of unprecedented market volatility, European investors have made big changes to their asset allocations over the past month, delivering a textbook recessionary asset allocation.

European asset allocators are overweight Food & Beverages for the first time in the history of the survey. A net 47 percent of the panel is now overweight the Healthcare/Pharmaceutical sector, with investors moving out of cyclical sectors such as Basic Resources and Chemicals. "Taking such a defensive stance could be costly. We believe it is time to start neutralising some defensive positions," said  Olney. "We have decided to take profits on Pharmaceuticals following their relative outperformance of 60 percent since June. We have also raised Basic Resources to overweight, reflecting good tactical value."

A total of 180 fund managers participated in the global survey from November 7 to November 13, managing a total of U.S. $536 billion. A total of 149 managers participated in the regional surveys, managing U.S. $334 billion. The survey was conducted with the help of market research company Taylor Nelson Sofres (TNS). Through its international network in more than 50 countries, Taylor Nelson Sofres provides market information services in over 80 countries to national and multinational organizations. It is ranked as the fourth-largest market information group in the world. Survey results were analysed by David Bowers, who is joint managing director of Absolute Strategy Research Ltd, a financial services consultancy.