Investors Skeptical of Europe's Stock Rally Amid Fiscal Reform Delays

Global investors are growing skeptical about the rally in European stocks, according to strategists at Goldman Sachs. They are awaiting Germany's fulfillment of its promise of large-scale fiscal reforms.

Fund managers are concerned that while artificial intelligence is driving the U.S. stock market higher and China is shining in emerging markets, Europe is falling behind. "Europe has fallen to the bottom of investors' shopping lists because other regions are showing much stronger momentum," said one strategist. Another added, "Everyone is quite skeptical about whether Europe will follow through on its funding commitments. The sentiment now is 'I want to see actual action, not just promises.'"

In the first quarter of this year, the Europe Stoxx 600 Index outperformed its U.S. counterparts by a record margin. At that time, Germany, Europe's largest economy, pledged to invest thousands of euros in defense and infrastructure — a significant shift for a country known for its strict control over government borrowing.

However, in recent weeks, this benchmark index has lost its lead. With signs of resilience in the U.S. economy and market expectations of a Federal Reserve rate cut, investors have flocked back to U.S. assets. The renewed enthusiasm for artificial intelligence has also driven up the stock prices of U.S. tech giants. The S&P 500 Index has reached a new all-time high this year, while the Stoxx 600 Index, though up, remains below its March peak.

Despite the skepticism, fund managers are not entirely pessimistic. A recent survey showed that while the allocation to European stocks has decreased in September, no respondents expected the market to fall by more than 5%.

The strategists noted that while investors are doubtful about Germany's proposed spending plans, these plans provide a fiscal "anchor" that has eased concerns about extreme downside risks in the region. Germany's plans to invest thousands of euros in road and bridge renovations, as well as military modernization, should boost economic output. However, some investors question when these large-scale stimulus promises will translate into corporate profits, and critics point out that some funds might be used to supplement state budgets rather than drive new investments.

"I've heard from many clients that the likelihood of Europe implementing negative interest rates in the next decade is very low, which is good for the banking sector," said one strategist. "Clearly, people have realized that fiscal support is indeed present, but they are not willing to pay for an optimistic scenario."

Another strategist forecasted that European corporate earnings would grow by 4% and 6% in the next two years, respectively, supported by improving economic growth. They also predicted that the Stoxx 600 Index would rise by about 5% in the next 12 months. "If Europe can deliver three-quarters of its promises, I think the market will perform very well," they said.