Since the US presidential elections, US equities have been on an uptrend driven by a certain optimism, as the expectation of tax cuts and deregulation have fuelled the hope of accelerated corporate earnings growth. Conversely, European markets have been subject to certain reservations due to weak macroeconomic indicators in the Eurozone and China, as well as the potential negative effect of President Donald Trump's promised tariff hikes on imports into the US.
Although widespread among investors, this negative sentiment towards European equities seems questionable to us. In fact, we see several reasons to hope for a rebound in European markets in the course of 2025.
First of all, we believe the impact of a tariff hike on European imports in the US should be limited. In most sectors, goods sold by large European companies in the US are mainly manufactured directly on American soil, and not subject to customs. For example, in the consumer staples sector, around 85% of the goods sold in the US by the three main listed European companies (Nestlé, Unilever and L'Oréal) are produced locally[1]. The damage from higher tariffs will be significant for only a handful of sectors whose production is mostly based in Europe, such as luxury goods and automobiles. However, luxury goods companies have significant pricing power, and should be able to pass on higher tariffs to their customers. The automotive sector should be affected, but its weight in European indices is very small (less than 2% of the MSCI Europe index market capitalisation[2]). And let's not forget that this will be a negotiation, and that the US also has something to lose in a trade war with Europe and China.
Another reason for optimism regarding European markets lies in the benefits that large European companies can gain from the implementation of Donald Trump’s program, given their significant exposure to the US (26% of the revenues of companies part of STOXX 600 index[3]). European companies will benefit directly from the announced reduction of the corporate tax rate, the expected acceleration of growth and the continued strengthening of the dollar vis-à-vis the euro.
Furthermore, many European-listed companies generate a larger share of their revenues in China than in the US, notably in the steel, consumer goods (luxury goods, automotive, cosmetics and food), chemicals and industrial sectors. The potential acceleration of the stimulus in China could be a significant catalyst for European equities, which we believe is not currently reflected in the markets. In addition to the initial measures already announced in favour of local authorities and real estate lending, the Chinese authorities are expected to unveil others in the near future, aimed at boosting consumption and growth.
A negotiated settlement of the war in Ukraine would also have positive impact on European equities, as it would result in a decline in the European equity risk premium. It should be remembered that the start of the conflict and the ensuing energy crisis led to massive capital outflows from European markets in 2022 and 2023. As a result, international investors today are significantly underexposed to European equities, even though we believe they offer an opportunity to invest in global leaders at a low-cost.
Finally, European equities should benefit from a more favourable interest rate environment than the US. We have little doubt that the European Central Bank will pursue its cycle of rate cuts, given the low inflation in the Eurozone and the need to support sluggish economic growth. Conversely, we see uncertainties over the pace of Federal Reserve rate cuts, due to the resilience of the US economy and the inflationary impact of Donald Trump's program (tax cuts, higher tariffs, and anti-immigration measures).
Given these opposing dynamics, we could see a certain decorrelation of long-term rates in the US and Europe, as seen in the first few weeks following Donald Trump's victory. Our economists believe that the spread between German and US 10-year yields could reach 2.5% or more[4], as was seen during Donald Trump's first presidential term. This situation would positively impact European equity valuations in relative terms, and could narrow the valuation gap between the two sides of the Atlantic, which is at an historical high (at price/earnings multiples of about 22.7x for MSCI USA versus 13.3x for MSCI Europe, based on market consensus as at 31 December, 2024[5]).
[1] Source: UBS, 12/11/2024.
[2] Source: MSCI, © MSCI All rights reserved, December 2024.
[3] Source: Les Echos, 17/01/2025
[4] Source: Candriam estimates
[5] Source Refinitiv
