August 17, 2004
by Mark Gongloff, CNN/Money senior writer

NEW YORK (CNN/Money) - Money managers are growing more pessimistic about the economy, corporate profits and U.S. stock market returns, according to a monthly survey by Merrill Lynch released Tuesday.

Fifty-one percent of the 293 fund managers surveyed in Merrill's Global Fund Manager Survey believe corporate profits will deteriorate in the coming 12 months, while 32 percent believe they will improve. A month ago, the split was 43-40 in favor of the optimists.

It was the first time profit pessimists outnumbered optimists since April 2001, during the early stages of a recession in the United States.

"Higher energy prices have taken their toll of hopes for top-line growth," Merrill chief investment strategist David Bowers wrote in the note announcing the survey results. "'Cost-cutting' as a driver of earnings is back on the radar screen."

Crude oil prices have hit record highs in recent weeks, driven in part by widespread fear about supply disruptions. Higher energy prices hurt corporate profits by raising the cost of doing business, and they act as a tax on consumers, eating away at discretionary income.

Partly for these reasons, all of the U.S. recessions in the past 30 years have been accompanied by oil spikes. Though few economists expect a recession this time around, many are concerned it will slow the rate of growth in the U.S. and other economies.

In the Merrill survey, 53 percent of fund managers said they believe the global economy will weaken in the next 12 months, while just 33 percent believe it will get stronger. A month ago, the split was 44-34 in favor of the pessimists.

On the brighter side, however, fund managers grew slightly less worried about inflation. While 71 percent said they expected inflation to rise in the next 12 months, and only 10 percent said they expected it to fall, 18 percent said they expected inflation to hold steady. A month ago, 90 percent expected higher inflation, and only 3 percent expected it to fall.

With all this caution, it's little surprise that fund managers said they'd shifted their portfolios to cash. Forty-one percent said they were "overweight" cash, while only 11 percent said they were underweight. It was the biggest such split since March 2003, during the jitters leading up to the beginning of the Iraq war.

When fund managers do invest in stocks, they avoid U.S. markets, according to the survey. The outlook for corporate profits is the least favorable in the United States, and U.S. stocks are the most overvalued in the world, in the opinion of the fund managers. Eurozone and Japanese stocks were called the most undervalued.

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