European equities have had a strong year, outperforming other developed markets, thanks to a number of potential tailwinds ahead. While we remain Neutral on the region overall, we see single stock opportunities emerging from these potential macro and structural catalysts.
These include i) a likely more pro-growth German government, ii) a possible Russia/Ukraine ceasefire/peace deal, iii) an improving outlook for manufacturing activity, and iv) trade tariff discussions between the US and EU that spurs Europe to spend more on defense. Our “Six ways to invest in Europe” thematic is centered around six equity drivers resulting from the above catalysts. Investors might opt to invest in one or more of the respective six drivers. However, in order to optimize investors' risk-returns, we advise investing in a diversified way across all six segments. For our stock picks, see our regularly updated Equity Preference List.
For our stock picks, investors should see our "Six ways to invest in Europe" Equity Preference List, which highlights companies we believe are best positioned to benefit from the six key drivers outlined in this report (see Fig. 10).
Europe has been the best-performing major equity market this year thanks to growing excitement about potentially powerful catalysts ahead. Indeed, economic growth would accelerate if one or more of these promising tailwinds were to materialize in the coming months. While we remain Neutral on European equities due to the looming uncertainty, we see various select single stock opportunities to benefit from these emerging trends.
Our “Six ways to invest in Europe” thematic investment opportunity aims to take advantage of six drivers:
1. A cyclical economic recovery ahead in Europe,
2. Post-election beneficiaries in Germany,
3. Rising security investments (defense and cyber),
4. Rebuilding Ukraine and a recovery in Eastern Europe,
5. Beneficiaries of lower energy costs in Europe, and
6. Globally active European companies with limited global trade risks.
The stocks selected for this theme enjoy higher exposure to the six drivers than the broader European market. The following events could prove to be important catalysts for this theme and will be closely monitored.
Europe should see a (moderate) economic recovery in 2025, in our view (see Fig. 1), while the world's other major economies—including the US and China—should lose some momentum. After a two-year downturn, led by Germany due to the energy crisis and budget constraints, Europe is likely to gradually recover from a low base. The European economic recovery is supported by stable unemployment rates and positive real wage growth.
UBS expects unemployment to fall in the UK from 4.3% in 2024 to 4.1% in 2025, to stay flat in the Eurozone at 5.8%, and to moderately increase in Switzerland from 2.4% last year to 2.6% this year.
While the consumer price spikes in 2022 and 2023 hurt consumption, inflation has been moderating significantly over the past few quarters and wages continue to improve. As a result, the European economy should benefit from real wage growth of 0.6-0.8% in 2025 in the EU, the UK, and Switzerland, according to our estimates. The European consumer will thus likely remain an area of resilience.
With falling inflationary pressure, the European Central Bank (ECB) began gradually loosening its monetary policy by cutting its policy rate in June 2024 (see Fig. 2). We expect the ECB to cut rates by another 75 basis points over the remainder of this year, supporting domestic economic trends. Monetary policy is comparable in the UK and Switzerland, with the Swiss National Bank being a bit ahead in the rate-cut cycle due to more favorable consumer price inflation trends.
Lower interest rates and better credit availability should encourage capital investments as project financing costs moderate. Meanwhile, private consumers’ propensity to save—rather than to spend—should decrease as consumer confidence comes back.
Key catalysts to monitor in regard to Europe’s economic recovery are the monthly purchasing managers' indices and the consumer confidence indices, quarterly GDP data, and central banks’ monthly or quarterly rate decisions. Key beneficiaries in an economic recovery in Europe would be cyclical companies with a high exposure to European end markets. Sector-wise, industrials, consumer discretionary, and materials would likely be at the forefront.
The already advanced 4Q24 corporate earnings season also supports our constructive outlook. Numerous economically sensitive companies, including Siemens and Sika, reported decent sequential industrial demand trend improvements for the past quarter, and their guidance for this year suggests a continuation of these favorable trends. Moreover, consumer-focused companies, like luxury goods maker Richemont and airliner Ryanair, reported robust demand trends from European consumers.
We believe these companies, including others like Accor, are in pole position to race ahead once Europe's recovery materializes. The biggest risks to our expected economic upturn include escalating international trade barriers and EU-internal political blockades.
