The latest Bank of America Merrill Lynch Fund Manager Survey has revealed that global investors are fretting over the US "fiscal cliff".

Almost three-quarters (72 per cent) of global investors think the US fiscal cliff is not "substantially priced" into global equities and macroeconomic data, as a growing number regard it as the biggest tail risk while anxiety regarding EU sovereign debt funding risk has eased, according to Bank of America Merrill Lynch's October 2012 Fund Manager Survey.

The findings point to positive sentiment towards the global economy and equities, while the gap in popularity between Europe and the US appears to have shrunk; the two regions are now viewed equally in the eyes of asset allocators, as demonstrated by the fact that a net 10 per cent of the panel is overweight in both. “While the US fiscal cliff is a hurdle, growing belief in the global economy could spur a more ‘risk on’ stance from investors,” said Michael Hartnett, chief investment strategist at Merrill Lynch Global Research.

The number of respondents who deem the fiscal cliff as the number one tail risk has spiked up from 35 per cent in August to 42 per cent in September. At the same time, anxiety towards the EU sovereign debt funding risk has eased somewhat, with just over a quarter (27 per cent) now perceiving it as the top risk - down from 33 and 65 per cent in September and June respectively.

Additionally, concerns about the outlook for corporate profits have "eased noticeably," the firm said. A net 11 per cent of investors believe corporate profits will fall in the coming year, down from a net 28 per cent in September. On the other hand, expectations of a sharp bounce in earnings fell, with 58 per cent predicting that double-digit earnings gains are unlikely in the next year, up from 55 per cent in September.

Meanwhile, 24 per cent of asset allocators are now overweight equities, up from 15 per cent last month. Overall, fund managers increased allocations to seven of the 11 global sectors, including banks and industrials. Regionally, while allocations to the eurozone and global emerging markets increased, allocations to Japan hit a three-year low.

Investors more bearish on Japan, move into higher risk territory

As concerns grow over a dispute with China over the Senaku Islands and its impact on trade, 38 per cent of global asset allocators are underweight Japanese equities - the lowest reading since March 2009 and up from a net 23 per cent a month ago. Furthermore, a net 24 per cent of investors say Japan is the region they most want to underweight (for the second consecutive month), while 30 per cent of the regional panel believe the Japanese economy will weaken in the coming year, up 26 percentage points since September.  

As well as boosting equity allocations, investors are also shifting towards higher risk sectors. For example, a net 7 per cent of investors are overweight industrials, which the firm noted is a highly cyclical sector, compared with a net 8 per cent underweight in September. There was also positive movement in sectors such as banking, insurance and materials. "Within the banking sector in particular, valuations have fallen sharply despite improving sentiment," BofA said.

Meanwhile, a net 18 per cent of the panel believe banks to be the most undervalued sector, up from 11 per cent in September and double the reading of the second most undervalued sector - materials - at 9 per cent.

In terms of what investors would sell to fund the purchase of high beta equities, 37 per cent opted for government bonds, while cash and defensive equities were selected by one-third and 19 per cent respectively. Corporate bonds were singled out by 4 per cent.  

Referring back to the Europe/US aspect, it is interesting to note that Russ Koesterich, chief investment strategist at iShares, recently told journalists at a media briefing that since about mid-2010 much attention has been geared toward economic concerns in Europe, but now - over the coming three months and into 2013 - it is time to focus on the "shark closest to the boat" in terms of global growth: the US (view article here).