It's clear that Real Madrid should be the most likely to defend their trophy. But, as you said, it's weird they got second, not first. Prob Pep's factor is the reason why we're still seeing City at the first place. Also, the funny thing is that Arsenal is more favored. They have smaller odds than Munich, which beat them last season. But the only acceptable reason is probably due to the new coach of Bayern Munich. Still, this looks so strange.
All of that can still change when the season starts because for me it is also not right to put Real Madrid in second place after what Real Madrid achieved last season and also with the current Real Madrid squad. If it is because Pep is still coaching Manchester City, I think it is also not wrong if we consider Ancelotti as a good coach for Real Madrid so that every Real Madrid player is able to play the way he gives. We can see an example when Real Madrid beat Atalanta where in the first half Real Madrid did not play well enough, but in the second half everything changed and Madrid became a team that was able to win.
Real Madrid is the strongest team on this planet, period. Anyone who argues differently is either ignorant or not listening. Although the preseason rankings could show Manchester City first, those are just figures on a page. They don't win championships, Real Madrid does. Real Madrid also has something in great numbers.
Remember last season? RM disproved the odds by demonstrating that football is about performance rather than predictions. And this squad performs really under Ancelotti's direction.
On the field, we have a mix of hungry young guys and seasoned veterans that is lethal. And Ancelotti is aware of how to maximize every one of them. He is a brilliant strategist who can use one tactical change to swing the tide of a game.