Investors are becoming increasingly confident in holding equities as U.S. markets continue to make new yearly highs heading into the final months of 2009, according to a client survey by Citigroup.

However, a significant proportion of investors still think earnings estimates for 2010 are too high, are worried about U.S. public finances, the prospect of rising interest rates next year and a less-than-stellar economic recovery.

Back in early March a fire sale of equities pushed the S&P 500 to its lowest level in 12 years. Since then the broad based index has risen 62 percent as the economy recovers from a severe recession and financial markets stabilize.

According to Citigroup's survey of 100 investors, 80 percent are overweight on equities compared to corporate bonds, up from just over 60 percent in July. The report said 62 percent expect to allocate more money to equities in 2010.

That optimism is reflected in a rise in S&P 500 forecast levels. Around 64 percent of Citigroup's clients expect the S&P to end the year at between 1000 and 1300, up from a range of 900 to 1200 in July. The S&P hit a 2009 closing high of 1096.56 on October 15.

In recent meetings with clients, we have witnessed a new enthusiasm almost across the board with members of the investment community citing liquidity, earnings and M&A as reasons to be upbeat for even more gains, wrote Citigroup analysts led by Tobias Levkovich.

The information technology and energy sectors are among investors' favorites, according to the report, while there was a clear disdain for the utility sector, which historically lags in the early stages of an economic recovery. Since the July report there was a drop off in interest in financials, industrials and materials.

Although generally more optimistic about equities, around 60 percent of investors believe the growing U.S. budget deficit will become an issue for markets in the middle of 2010. Most investors believe the Fed will start raising interest rates in the second quarter, with the 10-year Treasury yield hitting 4 to 4.5 percent by the end of the year.

There is some inconsistency in optimistic market expectations amidst concerns around potential policy errors, said Levkovich.

Respondents are about evenly split on the direction of the U.S. dollar next year, compared to 62 percent who predicted the dollar would weaken in July.

According to the report, 48 percent of those polled said S&P 500 earnings estimates in 2010 were too high compared to 22 percent who said they were too low.

Respondents predicted average earnings growth of 16 percent next year. Citigroup predicts earnings growth of 13-14 percent and says the Street view is for 27 percent growth.

Many investors expect a U-shaped or square root shaped economic recovery, with a short burst of recovery and then flattening out.

(Reporting by Edward Krudy, editing by Andrew Hay)

S&P Citigroup