Funds boost cash to highest in over five years as Greece, Fed threaten turbulence

By Sujata Rao

LONDON (Reuters) - Global investors increased cash holdings in their portfolios to the highest in more than five years in June, prompted by fears of market volatility with a Greek default and the first U.S. rate rise in almost a decade both looming.

The monthly Reuters survey of 47 fund managers and chief investment officers in the United States, Europe, Japan and Britain was conducted as it became evident a U.S. economic recovery was taking hold, allowing the Federal Reserve's June 16-17 meeting to signal a rate rise in 2015.

But markets are also being roiled by other issues.

Greece looks certain to default on a 1.6 billion-euro payment to the International Monetary Fund later on Tuesday, pushing European stocks into their worst one-day showing since 2011 on Monday. Turmoil will escalate, at least in the short term, if Athens is forced out of the euro zone.

Second, a U.S. rate rise, however well-telegraphed, will spark Treasury bond swings. And given the Fed backdrop, U.S equity prices may be too high, many reckon.

"We expect (that) one of the overriding features over coming quarters will be bouts of higher volatility and risk-off episodes, which means that investors will need to be far more wary," said Matthew Farrell, investment specialist at London & Capital.

The poll found that the average recommended allocation to cash in global balanced portfolios rose almost one percentage point from May to 7.3 percent, the highest since at least February 2010. Global cash levels were last above 7 percent in May 2012 when the euro debt crisis was ravaging Italy and Spain.

Cash was highest in European funds at 11.1 percent, the most in three years and up five percentage points from March.

Cash was increased at the expense of both shares and bonds, with global equity weightings down for the fourth straight month to 48.3 percent, the lowest since December 2014. UK investors were particularly bearish on equities, slashing holdings to a three-year low.

The share of fixed income in global portfolios declined to 35.9 percent, on par with August 2014 levels, and allocations to U.S. debt fell the most, declining 1.6 percentage points.

World stocks stand about five percent off record highs hit in April, while German 10-year yields stand 0.8 percentage point above the near-zero levels hit before a six-week selloff rocked global bond markets from the end of April. Treasury yields have risen about 50 bps since mid-April.

Andrea Conti, head of macro research of Eurizon Capital, the asset management arm of Italy's Intesa Sanpaolo, said he was optimistic on global growth, which made him positive on equities. However, his portfolio also raised cash weightings in May and June.

That was not down to the Greek crisis, but "in order to isolate ourselves from the bond world in a improving macro environment where yields are bound to rise", Conti said.

GREECE OR NOT, FED HIKE SEEN

Many poll participants were optimistic that Greece would manage to stay in the euro, though the survey was conducted largely before Prime Minister Alexis Tsipras's decision to call a referendum, effectively ending hopes of a deal with creditors.

But a Greek exit would be far less devastating to world markets than in 2010-2012, when banks across the world held hundreds of billions of dollars worth of Greek bonds. Now most of Athens' debt is owed to the IMF and other European nations.

That makes it likely that a Fed rate rise will stay on track, despite any Greece-fuelled turbulence.

U.S. equities were seen as vulnerable, their weight in global as well as U.S. portfolios being trimmed in June.

Bond markets have largely priced higher rates, but share prices are yet to do so, said Natexis strategist Raphael Gallardo, citing "the high valuation of U.S equities in a context of contracting profit margins."

Despite this week's reversal, U.S. S&P index trades around 17 times earnings, above its long-term average, Thomson Reuters data shows. This year's bumper merger and acquisition deals have been accompanied by what many see as frothy valuations.

Another headwind for U.S. companies is the dollar, which is gaining momentum as monetary policy turns.

"Within equities we maintain our preference for markets outside of North America where we see better valuations than in the United States, central banks on an easing cycle and weakening currencies, which should help exports and earnings," said Boris Willems, a strategist at UBS Global Asset Management.

(Additional reporting by Maria Pia Quaglia Regondi; editing by Larry King)