Why European Equities Are Now a Strategic Overweight in a Post-Tariff World

The global investment landscape is undergoing a seismic shift. For decades, U.S. equities—particularly the "Magnificent 7" tech giants—dominated returns, fueled by innovation, scale, and a dollar-centric world order. But as 2025 unfolds, a compelling case is emerging for European equities as a strategic overweight in a post-tariff world. This shift is driven by three pillars: global industrial recovery, sustained earnings momentum, and persistent undervaluation, all amplified by policy tailwinds and evolving investor sentiment.

1. Global Industrial Recovery: Europe's Cyclical Strength

The industrial sector, long a cornerstone of European economies, is experiencing a renaissance. The MSCI Europe Industrial Index has surged 12.4% year-to-date through June 2025, outpacing its U.S. counterpart by nearly 7 percentage points. This outperformance reflects a confluence of factors:

• Policy-Driven Infrastructure Booms: Germany's €500 billion Industrie 4.0 initiative and France's France 2030 plan are accelerating capital investment in manufacturing, logistics, and green energy. These programs are not just stimulus—they're structural upgrades to productivity and competitiveness.
• Tariff Diversification: As U.S. trade policies introduce friction, European firms are capitalizing on their access to untariffed markets in the EU, UK, and beyond. For example, Siemens Energy's recent €3.2 billion contract to supply offshore wind turbines to the UK underscores the continent's role in decarbonization and energy security.
• Currency Tailwinds: A weaker U.S. dollar (down 8.3% against the euro since early 2024) has boosted the valuations of European equities for U.S. investors. This effect is particularly pronounced in export-heavy sectors like industrials and financials.

2. Earnings Momentum: A Quiet Revolution in European Corporates

European equities have historically been dismissed as "defensive" plays, but 2025 is rewriting that narrative. Earnings growth across the region has averaged 7.2% in Q1 2025, outperforming the S&P 500's 4.8% and reversing a decade-long trend of underperformance.

• Banking Sector Resurgence: European banks, once battered by low interest rates, are now among the most compelling stories. The ECB's June 2025 rate cut to 2% has unlocked profitability for lenders like Deutsche Bank and BNP Paribas, which are now generating double-digit ROEs.
• Dividend Yields as a Magnet: The FTSE All-Share trades at a 42.6% discount to the S&P 500 but offers a 3.8% dividend yield versus the S&P's 0.9%. This premium in income is attracting income-focused investors and active managers rebalancing away from overvalued U.S. tech.
• AI-Driven Productivity: European corporates are quietly integrating AI into operations. For instance, BASF's AI-driven chemical production optimization has cut costs by 15%, while SAP's cloud solutions are enabling SMEs to scale globally.

3. Undervaluation: A Mispricing Opportunity

European equities remain a bargain compared to their U.S. counterparts. The MSCI Europe Index trades at a 14.3x forward P/E, versus 24.1x for the S&P 500. This 40% discount reflects lingering skepticism about Europe's growth potential, despite the continent's stronger macroeconomic fundamentals:

• Fiscal and Monetary Synergy: The ECB's dovish stance (two more rate cuts expected by year-end) complements fiscal stimulus in Germany, France, and the UK. This "policy cocktail" is creating a fertile environment for earnings growth.
• Valuation Arbitrage: European financials and industrials trade at 10–15% discounts to their U.S. peers on EV/EBITDA metrics. For example, LVMH's 12x multiple contrasts with LVMH's U.S. luxury peers at 18x, despite similar revenue growth.
• Currency-Linked Opportunities: The euro's strength against the dollar (EUR/USD at 1.12 as of June 2025) means U.S. investors are effectively paying less for European assets.

4. Investor Positioning: A Correction in the Making

The underweight positioning of European equities in global portfolios is a key catalyst for near-term outperformance. According to the BAML European Fund Manager Survey, a net 34% of investors are overweight European equities, while a net 36% are underweight U.S. equities. This shift is not just tactical—it's strategic.

• Active Management Gains: Portfolio managers are rotating into European financials and industrials, sectors that offer diversification from U.S. tech. For instance, the SSGA Investment Solutions Group increased its active overweight in European banks by 8% in Q2 2025.
• Risk Diversification: European equities' lower exposure to tariffs (due to intra-EU trade) makes them a natural hedge against U.S.-centric trade risks. This is particularly relevant as the Fed's rate path remains clouded by inflationary pressures from protectionism.
• Capital Inflows: Euronext's Q2 2025 results—9.5% revenue growth in equity markets and a 16.2% increase in cash trading—highlight the continent's growing appeal as a liquidity hub.

Conclusion: A High-Conviction Opportunity

European equities are no longer a sidelined asset class. The combination of industrial recovery, earnings momentum, and undervaluation—coupled with policy tailwinds and a correction in investor positioning—makes them a high-conviction overweight for 2025 and beyond. For investors seeking to diversify away from U.S. exceptionalism and capitalize on a more balanced global economy, Europe offers a compelling mix of growth, income, and risk mitigation.

As the continent's corporates continue to outperform on both fundamentals and valuations, the time to act is now. The next chapter of global equity markets may well be written in Europe.