The MSCI Europe Index is up 15 per cent this year as of March 18, compared to a drop of 5 per cent for the S&P 500.Galeanu Mihai/iStockPhoto / Getty Images
European equity markets have outperformed their North American peers so far this year as investors look for cheaper valuations and a refuge from tariff wars. Some money managers see more gains ahead.
The MSCI Europe Index is up 15 per cent this year as of March 18, compared to a drop of 5 per cent for the S&P 500, while the S&P/TSX Composite Index has been relatively flat, according to Bloomberg LP, based on total returns in Canadian currency.
Sectors such as defence, health care and financial services have been driving many of the gains in industrial European economies such as Germany, France and the United Kingdom, portfolio managers say.
A recent Bank of America (BoA) survey of European fund managers shows 39 per cent of fund managers were overweight European equities relative to global markets in March, up 12 per cent from February and the biggest overweight since mid-2021.
The report also shows 23 per cent of fund managers are underweight U.S. stocks, the highest share since mid-2023 and up from 17 per cent in February.
BoA called it the “sharpest rotation out of the U.S. and into Europe on record,” with data going back to 1999.
The report also shows enthusiasm for Europe has already waned a bit, with 67 per cent expecting further upside, down from 76 per cent in the previous month. Still, fund managers say Europe is a good place to diversify portfolios, especially as the U.S. trade war wages on with a focus on countries such as Canada, Mexico and China. (Europe is also targeted, but to a much lesser extent).
Diversifying into other European sectors
Matt Moody, senior vice-president and portfolio manager at Mackenzie Investments in Toronto, who specializes in European equities, says more investors are looking around the world for attractive investment options.
“There’s a narrative that Europe is significantly cheaper than the U.S.,” he says, largely due to the runup in the so-called Magnificent Seven stocks that have made U.S. market valuations expensive.
While certain sectors such as industrials and value stocks are behind the overall boost in European equities, Mr. Moody says companies in other sectors are also becoming more attractive as long-term investments.
“There are some outstanding companies headquartered in Europe that maybe have not received as much of the spotlight in recent years,” he says, pointing to companies in his portfolios such as Compass Group PLC CMPGY, the world’s largest catering company, and technology company Halma PLC HALMY, both based in the U.K.
“It’s definitely not too late to consider investment in those types of companies that haven’t been participating fully in this recent rally in Europe and are still trading at relatively attractive valuations,” he says.
Germany’s stimulus spending to spur growth
David Lambert, senior portfolio manager and head of the European equities team at RBC Global Asset Management in London, says Germany, in particular, has been outperforming not just the U.S. but also other European markets.
He notes the German parliament recently approved a massive stimulus package and plans to spend billions on its military and infrastructure in the coming years.
That creates “an impetus” for more productivity and growth in Germany and in Europe as a whole, he says.
And while Europe’s economic growth is still expected to trail that of the U.S., according to the latest OECD forecasts, Mr. Lambert sees the market valuation gap between the two regions continuing to narrow as investors look for more opportunities in countries such as Germany, France and the U.K.
“The operational and growth momentum is in Europe’s favour, setting it up for potentially more outperformance to come,” he says.
Europe isn’t immune from the potential economic impact of the U.S. tariff war, but Mr. Lambert notes many companies in the region already have manufacturing operations in the U.S. because of the geographical gulf.
“It’s something we constantly have to monitor at the portfolio level but, as it stands right now, the impact shouldn’t be particularly large,” he says. “It’s more about the uncertainty effect it creates for businesses who want to do business in the U.S.”
Don’t count out the U.S.
Sadiq Adatia, chief investment officer at BMO Global Asset Management, says his investment team is neutral on Europe. That’s an upgrade from being underweight a few months ago, as more investors look to Europe for more certainty and higher returns.
“The only reason we haven’t gone overweight Europe is that it’s still in the infancy of turning the corner. It has stabilized, but I wouldn’t say it’s in a strong growth mode by any means,” he says, adding the U.S. still has one of the strongest growth runways in the developed world.
He also notes the underperformance of U.S. markets has been largely driven by investor uncertainty and not fundamental issues or the overall economy.
“That’s important to understand,” Mr. Adatia says. “U.S. companies are still some of the best in the world, so you don’t want to look away dramatically quite yet. That said, I think you need to diversify and take opportunities in lower-valuation regions such as Europe.”