Investors should put their faith in the beleaguered euro zone, according to one of Wall Street’s biggest banks, which now expects the region’s stocks to outperform the US despite the stubborn persistence of risks including Brexit.

JPMorgan has raised euro zone equities to “overweight” at the expense of US stocks which it has downgraded to “neutral,” in a marked shift from its longstanding preference for Wall Street.

Opportunity

The decision comes amid a “tactical window of opportunity” given US stocks’ long spell of outperformance and the cheap valuations on offer in the euro zone, JPMorgan’s equity strategists said in a research note published on Monday morning.

Euro zone equities have underperformed the US by 20 percentage points in dollar terms since last May, creating a good entry point for investors, according to the note. Institutional investors have turned particularly sour, with US domiciled funds having “severely cut” their exposure to Europe.

JPMorgan’s strategists added that euro zone equities are trading well below their historic relative valuations compared with the US.

The recommendations come with the European economy teetering on the brink of a recession, as a sharp downturn in the region’s manufacturing sector has begun to bleed into the wider economy.

Mario Draghi, the president of the European Central Bank, warned in an interview that the region’s latest monetary stimulus “may have to last a long time” if national governments do not start spending more to counter the global slowdown.

The US bank said the prospect of an increase in fiscal stimulus could be enough to support markets: “While JPMorgan’s base case is that meaningfully stronger fiscal support is unlikely anytime soon, we believe that equity markets could start to price in increasing odds of this happening.”

Political risk is also looming over the region, including Brexit and long-running uncertainty in Italy – which is facing budget negotiations with the EU in a fraught domestic landscape.

“We see this as a tactical opportunity, but accept that there are clear risks to the call, with Brexit among the prominent ones,” the research note said.

Deal

JPMorgan said a no-deal Brexit is not its base case, and investors should not dismiss the possibility that Boris Johnson makes a last-gasp deal with the EU before the October 31st deadline.

“This would clearly be very bullish for UK domestics in sterling terms, and would significantly help our euro zone upgrade,” the bank said.

The US bank is also reassured by the decline in the spreads between Italian government bonds and their German peers. “While the bond markets have been reflecting the fading political risks in Italy, we note that euro zone equities have not yet participated,” it said. – Copyright The Financial Times Limited 2019