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Despite the fact that equity markets continue to gather more steam, with global indices now trading near year-to-date highs and volumes having picked up nicely, retail and institutional portfolios are still positioned defensively, according to Vincent Delisle. However, the Scotia Capital strategists thinks improving news flow and market fundamentals are drawing more investors to the dance floor.

Mr. Delisle told clients:

Although there remains a lot of sceptics looking to invalidate the rebound, this uninterrupted equity rally has been supported by constantly improving macro economic data. Moreover, scenarios swiftly went from pricing a depression to pricing a recovery.

Since history shows that equity markets outperform bonds coming out of recessions and in the early stages of expansions, with global GDP growth picking up in the third quarter, the strategist is maintaining an equity overweight bias. Insisting that this bullish view is not a static long-term stance, Mr. Delisle believes it is premature to adopt a defensive bias at this stage of the recovery because markets are not pricing unrealistic scenarios yet.

When markets start pricing a smooth or sustainable average U.S. recovery post-2010, the S&P 500 should trade above 1,200, he said. That’s when he expects caution will play a bigger role in the strategy. However, the strategists feels investors should stick with equity over bond bias through the early part of 2010.

Mr. Delisle said:

Admittedly, markets have been overbought for many weeks, but current valuations do not appear overly optimistic in our opinion. With the macro news flow barely starting to turn positive, we expect equities will keep getting fundamental support in coming months.

The level of cash sitting on the sidelines at both the investor and company level is another important factor behind Scotia’s positive view on equities for 2009. Mr. Delisle suggested that the intensity of the shift towards riskier assets will accelerate as positive data emerges in the next six months. Companies will also look to redeploy their cash and look for superior return opportunities, either through M&A, share buy-backs, or increased dividends as management teams go from deep-recession-contingency plans to objectives aimed at growing and market share, he added.

The recent flurry of large deals is a signal that businesses are taking advantage of the unclogging credit market, relatively attractive valuations, and lower cost of capital.

Source: Improving Fundamentals Draw More Investors to the Dance Floor