BofA Securities’ Negative Outlook on European Equities

As of August 2024, BofA Securities maintains a negative outlook on European equities due to a complex macroeconomic environment marked by uncertainty and volatility in global markets.

Key Factors Influencing the Outlook

The brokerage highlights:
– A significant shift in market focus from inflation concerns to growth risks.
– Earlier in 2024, weaker macroeconomic data led to the belief that inflation was under control, potentially resulting in dovish central bank policies.
– As inflationary pressures ease in the U.S., the focus now shifts to the health of the labor market and broader economic growth prospects.

Labor Market Weakened

The U.S. labor market, a critical indicator for global economic trends, displays signs of weakening. The analysts note that:
– The U.S. unemployment rate has increased by 90bps from the cycle low and 80bps year-on-year, a pattern typically seen during recessions.
– Although some suggest this rise may not be alarming due to factors like higher immigration and weather disruptions, BofA believes risks are skewed towards more labor market softness.

Implications for European Equities

This expected weakness in the labor market may signal a broader economic slowdown, which is detrimental to equities, including those in Europe. BofA projects a 15% downside for European equities by Q2 2025 due to:
– Rising risk premia.
– Weakening earnings per share (EPS) expectations.
– A particularly negative view on cyclical sectors such as capital goods, construction materials, and banks, which have yet to fully partake in the global market decline.

Defensive Sectors Preferred

Conversely, defensive sectors like food & beverages are regarded as more resilient. BofA:
– Favors these sectors for their historical outperformance during rising risk premia and economic downturns.
– Identifies significant upside potential for the food and beverage sector, which is near decade-lows relative to the broader market.

Sectoral Outlook

• Cyclical Sectors: Expected underperformance, with luxury goods and semiconductors being somewhat less risky.
• Defensive Sectors: Overweighted in BofA’s strategy, especially food & beverages and pharmaceuticals, which are seen as undervalued with reliable outperformance records during downturns.

Recommendations for Investors

BofA emphasizes the importance of sector rotation, advising investors to reduce exposure to high-risk cyclicals and increase allocations to defensive stocks.

Broader Market Dynamics

The firm warns that recent market resilience may be misleading, cautioning that further deterioration in the U.S. labor market could dramatically increase risk premia and decrease market valuations. Concerns linger over potential economic downturns characterized by declining growth momentum and rising risk aversion.

Despite potential accommodative measures from the Federal Reserve, BofA doubts any actions would stave off a market correction if the labor market continues to deteriorate.