Investor enthusiasm for European equities is experiencing a significant boost as stock markets reach unprecedented levels. According to a recent survey conducted by Bank of America, fund managers are increasingly optimistic, with a majority expecting earnings upgrades and fiscal stimulus, particularly from Germany, to drive further upward momentum in the coming year.
Growing confidence in European growth
The latest findings from the Bank of America Fund Manager Survey reveal a dramatic increase in investor confidence regarding the European economy. A net 45% of respondents now anticipate stronger economic growth in Europe over the next year, a notable rise from just 9% the previous month, marking the highest level of optimism since May 2024. The anticipated fiscal stimulus from Germany’s next government and more accommodative monetary policies from the European Central Bank are key factors behind this positive sentiment.
Moreover, inflation expectations are shifting, with a net 59% of fund managers predicting lower inflation in Europe, in stark contrast to only 4% who expect a decline in global inflation. This divergence hints at a belief among investors that inflation in Europe will decrease more rapidly than in other significant economies, potentially allowing the ECB greater flexibility to lower interest rates.
Investors bullish on European equities
As expectations for European growth continue to rise, a growing number of investors are convinced that European stocks will outperform their global counterparts. The survey indicates that a net 66% of participants foresee near-term gains for European equities, an increase from 44% in the prior month. Furthermore, 76% of respondents believe there is significant upside potential over the next year, a jump from 56%.
Notably, for the first time in months, a majority of respondents now consider Europe to be the best-performing equity market on a global scale this year. Sebastian Raedler, a strategist at Bank of America, pointed out,
“We see further upside potential for euro area growth momentum, driven by easing credit conditions and a reduced fiscal and inventory drag, which typically boosts European small caps versus large caps.”
He also highlighted that a potential ceasefire in the ongoing Russia-Ukraine conflict could further stimulate growth by lowering energy prices and mitigating economic uncertainty in Europe.
Mathieu Savary, Chief European Strategist at BCA Research, echoed this sentiment, stating,
“European headwinds are fading while the US is not gaining new tailwinds. Consequently, Europe’s growth deficit will narrow, and European stocks are no longer a value trap.”
Savary suggested that long-term investors should consider increasing their exposure to European equities, although he cautioned that trade uncertainties and the risk of a potential global recession in 2025 could introduce short-term fluctuations.
Sector performance and market risks
Within the European market, banks have emerged as the most favored sector, surpassing insurance to become the largest overweight position for the first time since July 2023. Many investors believe that financial stocks will lead in performance this year, whereas retail and automotive sectors continue to be viewed cautiously.
Despite this optimism, sentiment towards European small-cap stocks remains lukewarm. A net 14% of investors predict that small caps will lag behind large caps, representing the most pessimistic outlook in six months. However, some analysts suggest that this sentiment could change for the better.
The ongoing debate regarding whether European stocks are undervalued compared to U.S. equities persists. Investors are increasingly attracted to European stocks, not only for their appealing valuations but also because they are perceived to provide greater protection against economic downturns than U.S. counterparts. Savary noted,
“European valuations are depressed because of a misconception: that Europe’s economic woes are entirely structural and will not go away.”
He believes that while enduring structural challenges exist, many cyclical pressures are diminishing, presenting European markets with an opportunity for positive surprises.
Despite the bullish outlook, investors remain cautious about potential global risks. A plurality of 39% view a global trade war as the most significant threat to markets, an increase from 28% the previous month. Additionally, concerns about further interest rate hikes by the U.S. Federal Reserve still loom, with 31% of global investors citing this as a major risk, though this figure has decreased from 41% in the past.
The next few months will be crucial in determining whether the current investor optimism can lead to sustained outperformance in European markets, or if macroeconomic uncertainties will once again hinder progress.