Our Head of Research Product in Europe Paul Walsh and Chief
European Equity Strategist Marina Zavolock break down the key
drivers, risks, and sector shifts shaping European equities in
2026.
Read more insights from Morgan Stanley.
----- Transcript -----
Paul Walsh: Welcome to Thoughts on the Market.
I'm Paul Walsh, Morgan Stanley's Head of Research Product in
Europe.
Marina Zavolock: And I'm Marina Zavolock, Chief
European Equity Strategist.
Paul Walsh: And today – our views on what 2026
holds for the European stock market.
It's Tuesday, December 9th at 10am in London.
As we look ahead to 2026, there's a lot going on in Europe stock
markets. From shifting economic wins to new policies coming out
of Brussels and Washington, the investment landscape is evolving
quite rapidly. Interest rates, profit forecasts, and global
market connections are all in play.
And Marina, the first question I wanted to ask you really relates
to the year 2025. Why don't you synthesize your, kind of, review
of the year that we've just had?
Marina Zavolock: Yeah, I'll keep it brief so we
can focus ahead. But the year 2025, I would say is a year of two
halves. So, we began the year with a lot of, kind of, under
performance at the end of 2024 after U.S. elections, for Europe
and a decline in the euro. The start of 2025 saw really strong
performance for Europe, which surprised a lot of investors. And
we had kind of catalyst after catalyst, for that upside, which
was Germany’s ‘whatever it takes’ fiscal moment happened early
this year, in the first quarter.
We had a lot of headlines and kind of anticipation on
Russia-Ukraine and discussions, negotiations around peace, which
led to various themes emerging within the European equities
market as well, which drove upside. And then alongside that,
heading into Liberation Day, in the months, kind of, preceding
that as investors were worried about tariffs, there was a lot of
interest in diversifying out of U.S. equities. And Europe was one
of the key beneficiaries of that diversification theme.
That was a first half kind of dynamic. And then in the second
half, Europe has kept broadly performing, but not as strongly as
the U.S. We made the call, in March that European optimism had
peaked. And the second half was more, kind of, focused on the
execution on Germany's fiscal. And post the big headlines, the
pace of execution, which has been a little bit slower than
investors were anticipating. And also, Europe just generally has
had weak earnings growth. So, we started the year at 8 percent
consensus earnings growth for 2025. At this point, we're at -1,
for this year.
Paul Walsh: So, as you've said there, Marina,
it's been a year of two halves. And so that's 2025 in review. But
we're here to really talk about the outlook for 2026, and there
are kind of three buckets that we're going to dive into. And the
first of those is really around this notion of slipstream, and
the extent to which Europe can get caught up in the slipstream
that the U.S., is going to create – given Mike Wilson's view on
the outlook for U.S. equity markets. What's the thesis there?
Marina Zavolock: Yeah, and thank you for the
title suggestion, by the way, Paul of ‘Slipstream.’ so basically
our view is that, well, our U.S. equity strategist is very
bullish, as I think most know. At this stage he has 15 percent
upside to his S&P target to the end of next year; and very,
very strong earnings growth in the U.S. And the thesis is that
you're getting a broadening in the strength of the U.S. economic
recovery.
For Europe, what that means is that it's very, very hard for
European equities to go down – if the U.S. market is up 15
percent. But our upside is more driven by multiple expansion than
it is by earnings growth. Because what we continue to see in
Europe and what we anticipate for next year is that consensus is
too high for next year. Consensus is anticipating almost 13
percent earnings growth. We're anticipating just below 4 percent
earnings growth. So, we do expect downgrades.
But at the same time, if the U.S. recovery is broadening, the
hopes will be that that will mean that broadening comes to Europe
and Europe trades at such a big discount, about 26 percent
relative to the U.S. at the moment – sector neutral – that
investors will play that anticipation of broadening eventually to
Europe through the multiple.
Paul Walsh: So, the first point you are making
is that the direction of travel in the U.S. really matters for
European stock markets. The second bucket I wanted to talk about,
and we're in a thematically driven market. So, what are the
themes that are going to be really resonating for Europe as we
move into 2026?
Marina Zavolock: Yeah, so let me pick up on the
earnings point that I just made. So, we have 3.6 percent earnings
growth for next year. That's our forecast. And consensus –
bottom-up consensus – is 12.7 percent. It's a very high bar.
Europe typically comes in and sees high numbers at the beginning
of the year and then downgrades through the course of the year.
And thematically, why do we see these downgrades? And I think
it's something that investors probably don't focus on enough.
It's structurally rising China competition and also Europe's old
economy exposure, especially in regards to the China exposure
where demand isn't really picking up.
Every year, for the last few years, we've seen this kind of China
exposure and China competition piece drive between 60 and 90
percent of European earnings downgrades. And looking at
especially the areas of consensus that are too high, which tend
to be highly China exposed, that have had negative growth this
year, in prior years. And we don't see kind of the trigger for
that to mean revert. That is where we expect thematically the
most disappointment. So, sectors like chemicals, like autos,
those are some of the sectors towards the bottom of our model.
Luxury as well. It's a bit more debated these days, but that's
still an underweight for us in our model.
Then German fiscal, this is a multi-year story. German fiscal, I
mentioned that there's a lot of excitement on it in the first
half of the year. The focus for next year will be the pace of
execution, and we think there's two parts of this story. There's
an infrastructure fund, a 500-billion-euro infrastructure fund in
Germany where we're seeing, according to our economists, a very
likely reallocation to more kind of social-related spend, which
is not as great for our companies in the German index or
earnings. And execution there hasn't been very fast.
And then there's the Defense side of the story where we're a lot
more optimistic, where we're seeing execution start to pick up
now, where the need is immense. And we're seeing also upgrades
from corporates on the back of that kind of execution pickup and
the need. And we're very bullish on Defense. We're overweight the
issue for taking that defense optimism and projecting out for all
of Europe is that defense makes up less than 2 percent of the
European index. And we do think that broadens to other sectors,
but that will take years to start to impact other sectors.
And then, couple other things. We have pockets of AI exposure in
the enabler category. So, we're seeing a lot of strength in those
pockets. A lot of catch up in some of those pockets right now.
Utilities is a great example, which I can talk about. So, we
think that will continue.
But one thing I'm really watching, and I think a lot of
strategists, across regions are watching is AI adoption. And this
is the real bull case for me in Europe. If AI adoption, ROI
starts to become material enough that it's hard to ignore, which
could start, in my opinion, from the second half of next year.
Then Europe could be seen as much more of a play on AI adoption
because the majority of our index is exposed to adoption. We have
a lot of low hanging fruit, in terms of productivity challenges,
demographics, you know, the level of returns. And if you track
our early adopters, which is something we do, they are showing
ROI. So, we think that will broaden up to more of the European
index.
Paul Walsh: Now, Marina, you mentioned, a number
of sectors there, as it relates to the thematic focus. So, it
brings us onto our third and final bucket in terms of what your
model is suggesting in terms of your sector preferences…
Marina Zavolock: Yeah. So, we have, data driven
model, just to take a step back for a moment. And our model
incorporates; it's quantum-mental. It incorporates themes. It
incorporates our view on the cycle, which is in our view, we're
late cycle now, which can be very bullish for returns. And it
includes quant factors; things like price target, revisions
breadth, earnings revisions breadth, management sentiment.
We use a Large Language Model to measure for the first time since
inception. We have reviewed the performance of our model over the
last just under two years. And our top versus bottom stocks in
our model have delivered 47 percent in returns, the top versus
bottom performance. So now on the basis of the latest refresh of
our model, banks are screening by far at the top.
And if you look – whether it's at our sector model or you look at
our top 50 preferred stocks in Europe, the list is full of Banks.
And I didn't mention this in the thematic portion, but one of the
themes in Europe outside of Germany is fiscal constraints. And
actually, Banks are positively exposed to that because they're
exposed to the steepness – positively to the steepness – of the
yield curve.
And I think investors – specialists are definitely optimistic on
the sector, but I think you're getting more and more generalists
noticing that Banks is the sector that consistently delivers the
highest positive earnings upgrades of any sector in Europe. And
is still not expensive at all. It's one of the cheapest sectors
in Europe, trading at about nine times PE – also giving high
single digit buyback and dividend yield. So that sector we think
continues to have momentum.
We also like Defense. We recently upgraded Utilities. We think
utilities in Europe is at this interesting moment where in the
last six months or so, it broke out of a five-year downtrend
relative to the European index. It's also, if you look at
European Utilities relative to U.S. Utilities – I mentioned those
wide valuation discounts. Utilities have broken out of their
downtrend in terms of valuation versus their U.S. peers. But
still trade at very wide discounts. And this is a sector where it
has the highest CapEx of any sector in Europe – highest CapEx
growth on the energy transition. The market has been hesitant to
kind of benefit the sector for that because of questions around
returns, around renewables earlier on. And now that there's just
this endless demand for power on the back of powering AI,
investors are more willing to benefit the sector for those
returns.
So, the sector's been a great performer already year to date, but
we think there's multiple years to go.
Paul Walsh: Marina, a very comprehensive
overview on the outlook for European equities for 2026. Thank you
very much for taking the time to talk.
Marina Zavolock: Thank you, Paul.
Paul Walsh: And thanks for listening. If you
enjoy Thoughts on the Market, please leave us a review wherever
you listen and share the podcast with a friend or colleague
today.
Kommentare (0)
Melde dich an, um einen Kommentar zu schreiben.