London (Reuters) - European funds were set to end 2016 with the highest equity allocations in over a year, betting that "Trumponomics" and a general move towards more government spending would lift growth, inflation and company earnings.
The poll of 14 European asset managers was conducted from Dec. 15 to 20, after the U.S. Federal Reserve delivered an expected 25 basis-point interest rate rise but flagged faster policy tightening in 2017.
That followed the Nov. 8 presidential election win for Donald Trump, who takes office next month with pledges to unleash $1 trillion in tax cuts and additional spending.
"Trumponomics will be a key factor to watch in 2017," said Matteo Germano, global head of multi-asset investments at Pioneer, who is optimistic about U.S. and Japanese equities.
"If his proposed infrastructure spending, fiscal easing and tax reforms are effectively implemented, the U.S. reflation stimulus will likely strengthen (economic) growth, inflation and earnings growth."
European asset managers raised their global equity allocations to 45.8 percent, the highest since November 2015 and a five percentage point jump from the previous month. With inflation on the rise worldwide, bond holdings dropped three percentage points to 39.6, the lowest since January.
But Trumponomics also carries risks - dollar appreciation from current 14-year highs, economic overheating, a sharp rise in inflation and finally, the threat to key trade deals.
Those factors may have induced funds to cut U.S. equity allocations to four-month lows, while U.S. bond allocations dropped to 23.6 percent, the lowest since January.
"The greatest risk is political: risk of policy error on the American side. It would put too much pressure on the economy and get an overheating," said Nadege Dufosse, head of asset allocation at Candriam.
She was one of those to warn of risks stemming from dollar appreciation. Just over half of those who responded to an extra question predicted the euro-dollar exchange rate would hit parity in 2017 for the first time since December 2002.
The single currency was launched in 1999 at a rate of $1.1747. It hit a high of $1.60 in 2008 but now trades around $1.0430.
Aside from interest rate differentials with the United States, the euro is also hampered by concerns over the political outlook, with elections next year in France, Germany and the Netherlands likely to show a lurch towards right-wing, anti-European Union parties.
However, despite fragile growth and banking woes, the reflation trade is also gathering pace in the euro zone. The ECB this month trimmed its asset buying and there is growing acceptance that monetary stimulus has peaked.
Data this week confirmed Germany would likely enjoy its strongest economic expansion in five years, and inflation is nearing the European Central Bank 2 percent target.
Inflation hedges therefore registered growing popularity, selected by all the respondents who detailed their top three investment picks for 2017.
Pioneer's Germano for instance noted that U.S. inflation-linked bonds appeared to price an overly low outlook for price growth. He also likes European linkers "as they discount a very pessimistic inflation scenario in the Eurozone".
Recovering growth that spurs inflows into European stocks may also put a floor under the euro exchange rate, many said.
The other big 2016 shock was Britain's June 23 vote to leave the EU, raising the likelihood of economic recession and pushing sterling to 31-year lows. While the currency has recovered somewhat, over a third of the poll participants who responded to the question felt the worst was not over.
However, allocations to British equities, which include numerous multinationals and foreign commodity producers, rose to the highest since October 2015. The FTSE index fell sharply in the immediate aftermath of the referendum but has jumped 22 percent since then.
Additional reporting by Claire Milhench; Editing by Hugh Lawson