BofA: Against the climate, sees a strong sell-off in European stocks – Which stocks will beat the trend

Her Eleftherias Kourtali

European stocks continue to strengthen significantly despite the slowdown in growth and rising real bond yields, BofA said. He explains that while growth has slowed sharply since mid-2021 and real bond yields have skyrocketed in response to the Fed’s sharp turnaround, stocks remain close to the highs recorded during the current uptrend that began after outbreak of the pandemic, and move towards the “breaking” of the correlation with the momentum of development.

The most likely explanation for this, BofA points out, is that investors see the slowdown in the economy as temporary and expect growth to accelerate again in the coming months, aided by:

(a) further easing of policy in China. However, as BofA points out, China’s debt crisis in the real estate sector remains unresolved, and the arrival of the Omicron wave is also going to strain the country’s growth potential.

(b) a rapid easing of global supply shortages. But BofA economists expect supply chains to remain under pressure for the first half of the year, with further disruptions likely as soon as the Omicron wave hits Asian construction hubs, and

(c) one last push from the re-opening of the economy as the pandemic becomes endemic. However, as the US Bank points out, with the US output gap almost closed, US consumption of goods is already at “stretched” levels and the recovery in service spending is well advanced, it considers that the possibilities for further boost from re-opening are limited.

BofA warns that it expects further growth slowdown in the coming months. In particular, he estimates that US GDP growth will slow towards the long-term trend this year and considers that the risks for even lower growth are significant, given the impact of the Omicron wave and the growing risk that the Build Back Better package of Biden may not pass.

It also expects eurozone growth to recede, with the risks of even lower levels very strong, given the substantially negative fiscal boost in 2022, the sharp slowdown in M1 growth and the impact of high energy prices.

China’s PMI, meanwhile, is expected to stay close to its current level of 51 as the impetus from improving the credit cycle is offset by weak real estate, headwinds from Covid waves and mild external growth.

Overall, these forecasts imply a further decline in the global PMI from the current 54 to 52 by the end of the year.

For all these reasons BofA remains negative for European stocks and underweight in circular stocks versus defense, but increases the recommendation for the luxury goods sector to overweight: stocks are currently benefiting not only from the pre-pricing of a strong which BofA believes is unlikely to grow, but also because the bond market is experiencing significantly more modest growth, which helps maintain real bond yields, ie the discount rate on equities. The bond market values ​​four Fed rate hikes this year, two more next year and no more in 2024, a total of six increases over the next three years, suggesting that bond investors see the recovery as so fragile that the Fed will soon have to abandon it. interest rate movements.

US bank economists see room for a significantly stronger Fed rate hike, forecasting nine increases over the next three years. Combined with the possible start of the Fed balance sheet cut in the fourth quarter of this year, this shows a further upward trend in real bond yields.

Its forecasts for a slowdown in growth combined with an increase in real bond yields mean a drop of about 10% in European stocks, and in particular a drop to 430 points for the pan-European Stoxx 600 index by the end of the year. It expects that this decline will be due to a 5% reduction in the estimated earnings per share (EPS) of Stoxx 600 listed companies, due to the slowdown in global growth and the increased pressure on profit margins due to higher production costs, as well as a drop of 5% in the 12-month P / E and 15x ratios, due to the slowdown in growth and the higher discount rate).

BofA is underweight in the circular sectors against the defense, due to its expectations for lower PMIs, stronger US dollar and higher credit margins, which indicate a 7% underperformance until the middle of the year. At the same time, he expects that the recent rally of European “value” stocks against “growth” stocks will continue and remains overweight in banks and insurance, as it sees a further rise in bond yields due to the Fed’s more aggressive policy. Her favorite circular underweights are capital goods and cars, while her favorite defense overweight is utilities.

BofA is also raising its stance on luxury goods from marketweight to overweight, as the 8% underperformance since December means the industry is experiencing a further slowdown in growth than the US bank’s baseline scenario.