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LONDON, Aug 16 (Reuters) - Investors may have squeezed the richest juice out of 2013's top investment themes, with a recovery in developed markets, the 'Great Rotation' out of bonds and flight from emerging markets all seeming largely played out.
As these strategies start to look overcrowded and tired, asset managers may see few incentives to chase them further, especially into the traditionally bumpy month of September.
While this year's gains in developed equities, a rally in the dollar and bond yields, and capital flight out of emerging assets have been unusually large, they are what many asset managers had positioned for since the start of the year.
And some indicators are now flashing amber. Fund managers polled by Bank of America Merrill Lynch are overweight U.S. equities at a level that is the third largest in 10 years. Hedge funds are aggressively betting on low equity volatility just as volatility is rising from the trough.
Expectations the Federal Reserve will begin to slow the pace of its money-printing next month - the first hint of which sparked a rally in the dollar and bond yields and a sell-off in emerging assets in May - are underscoring investor caution.
"We've been saying: mind the liquidity gap," said Arthur van Slooten, senior global asset allocation strategist at Societe Generale in Paris. "Equities have rallied massively but we feel there's definitely some complacency in the market.
"We've been cautious. There's possibly some rough times ahead with the tapering. There's incentive to take a more risk-averse portfolio."
According to SG, hedge funds' selling of volatility has reached extreme levels.
Hedge funds have 104,000 short contracts on the stock market 'fear gauge' Volatility Index, near a historic peak reached in December. However, the VIX has jumped to 14.7 percent after hitting a 4-1/2 month low below 12 percent last week.
World stocks as measured by MSCI are on track for their second consecutive weekly loss, after rising non-stop for six weeks.
Equities globally have attracted at least $175 billion of new inflows so far this year, mainly into Japan and the United States, the two biggest outperformers. The dollar has risen as much as 2.4 percent against emerging currencies.
Against this backdrop, Bank of America Merrill Lynch's trading model is now giving a short-term "sell" trading signal for North American and Japanese stocks and a "buy" signal for emerging markets.
"Given that the Great Rotation is now consensus, we believe the correct tactical position as summer ends is to use the recent decline in bonds, emerging markets and gold as near-term trading buy opportunities," BofA Merrill Lynch chief investment strategist Michael Hartnett said in a note to clients.
The outperformance of developed markets over emerging counterparts has been also a popular theme this year, with investors' exposure to emerging equities hitting a 12-year low.
But a recovery in the industrialised economies and higher commodity prices are also raising expectations that the emerging world might once again benefit from higher demand from the West.
The Thomson Reuters-Jefferies CRB index of 19 commodities hit a new four-month high on Friday.
"At some rate of expansion western demand growth would once again, with a lag, become an engine of growth for emerging markets and the euro area, presumably with current account deficits re-emerging from the developed market side," Nomura said in a note to clients.
"Emerging markets and euro area equities may, in fact, along with cyclical commodities, be one of the cheapest ways to get exposure to this hypothesis of a trend in western recovery." (Editing by Catherine Evans)