European equities could jump 6% over the coming months, according to Bank of America Merrill Lynch's (BAML) latest report.
The bank forecasts the pan-European stoxx 600 index will rise to 415 points by March next year. Currently, the stoxx 600 is trading at 395, up more than 16 percent year-to-date.
"Euro area and U.S. September PMIs (Purchasing Managers' Index) were weak last week, consistent with negative GDP (gross domestic product) growth in both regions. However, we expect growth momentum to improve over the coming months," the report said Tuesday.
In analyzing the upside for European equities, the report highlights that the U.S. has been the main external drag on the euro area, due to the sharp decline in PMIs, as opposed to China where the data has risen to highest level since early 2018.
"U.S. growth momentum has suffered from USD headwinds, but the USD is now set to become a tailwind," the note said, adding that the risk of a recession in the U.S. remains low.
The bank also expects European cyclical stocks to outperform defensive stocks by 5% in the months ahead. Meanwhile, in terms of sectors, BAML remains overweight on European airlines, mining firms and banks. But it remains underweight on European consumer durables and utilities.
Euro zone economic activity may be slowing down but banks continue to increase their exposure to the region's equity markets. On Monday, J.P. Morgan upgraded euro zone stocks to "overweight" while downgrading their U.S. counterparts to "neutral," reversing a long-standing position.
In a note to clients Monday, Head of Global and European Equity Strategy Mislav Matejka said analysts saw a "tactical opportunity" for the euro zone to catch up but accepted that there are "clear risks" to that call, most notably the danger of a no-deal Brexit.
Matejka highlighted that euro zone equities are underowned at present on account of a significant spell of underperformance, having lost 20% against the U.S. over 18 months. The note uses the benchmark MSCI euro zone and U.S. indexes relative in U.S. dollar terms.
Key to the potential for an uptick in Europe, Matejka indicated, is an acceleration of money supply and the potential for fiscal stimulus.
—CNBC's Elliot Smith contributed to this report.