Money managers say their view on the global economy is eroding and their fears about inflation are growing. Those are the findings of Merrill Lynch’s latest global fund manager survey.

The proportion of money managers expecting global growth to strengthen fell to 34% in April from 48% in March and 74% three months ago. The number expecting higher commodity prices also fell sharply, “partly on the back of a reassessment of growth prospects for the Chinese economy,” Merrill explains. “For the first time since June 2003 (the height of the SARS crisis), more fund managers believe the Chinese economy will weaken over the next 12 months than will strengthen.”

“But it is important to keep this pullback in perspective. Fund managers are not positioning themselves for a global recession, but more for a ‘mid-cycle’ pause in growth. What is surprising though is that institutional investors remain so ‘growth-skeptical’ despite the recent positive US real-economy data,” it notes.

Fund managers are also increasingly concerned about inflation. “A net 78% of the panel believe that global core inflation will be higher a year from now. That’s the highest net balance that the survey has recorded in nine years,” it reports. Admittedly, fund managers only expect a modest acceleration, but it is enough to make a third of them think that monetary policy is too stimulative, and that interest rates will have to rise.”

The survey also notes that 82% believe that short rates will be higher a year from now, while a record 86% believe that long yields will be higher. And, 91% believe the next move from the Fed is up, and more than three-quarters expect the Fed to tighten in 6-9 months’ time. “This growing concern about inflation is fuelling the increasing negative assessment of bonds. While equities are still seen as fairly valued, a record net 75% of our panel are convinced that bonds are overvalued. Moreover, a net 17% take the view that inflation-linked bonds will outperform conventional fixed-income securities,” it says.

On the equity side, fund managers like Japan best. “Not only is Japan the equity market that managers would most like to overweight on a 12-month view, but it is also the region with the most favorable corporate profits outlook,” Merrill reports. “Perceptions of valuation have improved so much so that Japan now vies with Emerging Markets as the most undervalued equity market region in the world. The net balance of asset allocators that are overweight Japan now stands at an all-time high.”