Investing.com -- BofA Securities analysts remain cautious on the outlook for European equities, emphasizing a complex interplay between recent U.S. dollar strength and broader global economic dynamics.
The analysts flag the challenges of a stronger USD, which has appreciated significantly.
However, they identify tactical opportunities for European stocks relative to global peers.
The USD's trade-weighted index has climbed 7% since September, driven by a hawkish shift in Federal Reserve policies and a slowdown in anticipated U.S. rate cuts.
This rise in the dollar has had mixed effects on European equities. On one hand, it has helped European stocks outperform global equities by 3% since December.
Key sectors benefiting from this include software and capital goods, the latter buoyed by an uptick in defense stocks.
However, pharma and construction materials have underperformed their USD-sensitivity benchmarks, partly due to sector-specific news and broader economic factors.
BofA analysts warn that the economic implications of this currency surge may not be immediately visible.
Historically, a stronger dollar is associated with weaker global macroeconomic surprises, a trend that typically manifests after a two-month lag.
The analysts anticipate that this pattern will persist, contributing to a wider global equity risk premium and a more cautious outlook for European cyclicals relative to defensives.
Although BofA holds a negative overall stance on European equities, the firm remains tactically overweight on Europe compared to global equities.
This divergence stems from expectations of softening global growth through mid-year, projected to align with declining global PMI figures.
By the second quarter, the Stoxx 600 index could face a further 9% decline, with European cyclicals potentially underperforming defensives by 12%.
In terms of sector preferences, BofA analysts favor defensive plays such as food & beverages and pharma, sectors expected to recover once financial risk premia begin to widen again.
In contrast, they remain underweight on banks and capital goods, which are particularly vulnerable to widening risk premia.
The outlook for European semiconductors and luxury goods remains positive, though analysts caution that luxury stocks may have limited further upside following a strong rally.
Currency movements remain a key focus. While the USD is currently "priced to perfection," according to BofA's FX strategists, its strength is likely to persist into the year, pressuring European exporters.
The analysts also point to potential rebounds in European PMIs, supported by easing fiscal pressures and a better credit environment, which could offer some relief to the euro.