Investing.com — The US dollar’s surge to record levels had significant implications for European stocks.
Since September, the broad trade-weighted USD index has risen 7%, bringing the exchange rate close to parity.
This US dollar strength has seen European shares outperform global shares by 3% since the end of December, following a challenging second half of last year.
Software (ETR:) has been the best-performing sector since September, outperforming the broader market by 15%, marking a significant outperformance relative to its USD-implied trajectory.
Pharmaceuticals, which have a 40% exposure to US sales, underperformed their historical sensitivity to the USD, likely due to an unfavorable flow of equity-related news.
Capital goods, a sector typically negatively correlated with USD strength, also defied expectations. According to BofA, the sector “is also exceeding the trajectory implied by USD strength since September, driven by a 10%+ outperformance in defense stocks in response to expectations of increased European defense spending.”
A stronger dollar generally leads to negative global macroeconomic surprises, which typically manifest after a lag of about two months. This lag occurs when tighter financial conditions associated with a stronger US dollar begin to affect macroeconomic indicators.
“Global macro surprises have recently turned negative again, with a signal from recent US dollar strength suggesting a further decline into negative territory over the coming weeks,” the report said.
Despite the overall negative view of European equities, BofA maintains a tactical preference for Europe over global equities. Analysts forecast downside risks for , with expectations of a 9% drop to 470 by Q2 2025. However, a slight pick-up in Eurozone PMIs could support a relative outperformance.
Defensive sectors such as food and beverages, along with pharmaceuticals, were highlighted as key overweight positions.
BofA notes that both sectors “underperformed in response to the continued compression of risk premia to multi-decade lows, but should benefit as risk premia begin to pick up again.”
Meanwhile, banks and capital goods are key cyclical supports at BofA, due to potential pressures from a possible pullback in bond yields amid weakening global macro surprises.
Moreover, analysts predict that lower bond yields will provide an approximately 20% outperformance for the real estate sector, with a 12% decline for European value stocks compared to growth stocks.
The semiconductor sector remains overweight, as BofA expects it to recover even more from last year’s poor performance against global growth trends. Similarly, luxury goods are also too heavy; however, after rising 15% since November, further price increases are forecast to be minimal.
