Rising Political Uncertainty and Trade Tariffs: A Strategic Reassessment of German Equities – Navigating Sector-Specific Risks and Opportunities

The German equity market faces a perfect storm: political instability under the Merz government, U.S. trade tariffs, and structural economic challenges. For investors, this environment demands a sharp focus on sector-specific vulnerabilities and opportunities. While the DAX has oscillated between hope and despair, the path forward is clear: divest from export-reliant industries and pivot toward defensive sectors with insulation from geopolitical and fiscal risks.

The Catalysts: Political Volatility and Tariffs

Chancellor Friedrich Merz's coalition, formed after a rocky start with a failed parliamentary vote, has struggled to stabilize the economy. The DAX dropped 1% immediately after the failed vote, with defense stocks like Rheinmetall leading the decline. This volatility underscores a market increasingly skeptical of Merz's ability to deliver on promises of tax cuts and infrastructure spending.

Meanwhile, U.S. tariffs on German steel (now at 50%) and automotive exports have created existential risks for industries already grappling with declining competitiveness. China's rise as a manufacturing powerhouse has further eroded Germany's export-driven growth model.

Sector-Specific Risks: Industrials and Exporters Are the Weak Link

1. Industrials: A Sector in Free Fall
Companies like ThyssenKrupp and ArcelorMittal exemplify the crisis in Germany's industrial base. Job cuts are accelerating, with over 10,000 layoffs monthly, and factories in Duisburg—once a symbol of industrial might—are now ghost towns.

The Supply Chain Due Diligence Act's repeal under Merz's deregulation agenda was meant to boost competitiveness, but it risks undermining ethical sourcing without addressing core structural issues like outdated infrastructure.

2. Automotive: Tariffs and Tech Laggards
The automotive sector, a cornerstone of German exports, faces a double threat: U.S. tariffs and the shift to electric vehicles (EVs). While firms like BMW and Volkswagen have invested in EVs, their reliance on U.S. sales leaves them exposed.

Rheinmetall's Reversal: A Cautionary Tale

Initially, defense stocks like Rheinmetall surged on Merz's plans to lift military spending to 5% of GDP. However, political instability and delayed reforms have derailed this narrative.

Investors now see defense as a cyclical play, not a sustainable growth story.

The Opportunity: Defensive Sectors and Geopolitical Hedges

While industrials falter, healthcare, consumer staples, and firms with diversified revenue streams offer resilience.

1. Healthcare: Steady Demand and Global Reach
Firms like Fresenius Medical Care (healthcare) and Bayer (pharmaceuticals) benefit from steady domestic demand and global operations. Their exposure to U.S. markets is balanced by sales in Asia and Europe, insulating them from trade wars.

2. Consumer Staples: Local Demand and Pricing Power
Metro AG (retail) and Reckitt Benckiser (consumer goods) thrive in an environment where households prioritize essentials. These firms also leverage non-German revenue, with Metro's 30% exposure to Eastern Europe and Asia.

3. Tech and Digitalization: The Merz Government's Silver Lining
Merz's push to modernize Germany's digital infrastructure, led by the WIN initiative (now €25 billion), creates opportunities in software and cybersecurity. Firms like SAP and Qenta are well-positioned to benefit from corporate IT upgrades and EU-wide data initiatives.

Investment Strategy: Go Defensive, Go Global

• Avoid: Industrials (ThyssenKrupp, ArcelorMittal), automotive exporters (VW, BMW), and defense stocks (Rheinmetall) until geopolitical risks subside.
• Buy:
• Healthcare: Fresenius Medical Care, Bayer.
• Consumer Staples: Metro AG, Reckitt Benckiser.
• Tech: SAP, Qenta.
• ETF Play: The iShares MSCI Germany Consumer Staples ETF (FEUS) offers broad exposure to resilient sectors.

Conclusion

The German equity market is at a crossroads. Political instability, tariffs, and structural decline in manufacturing have created a stark divide between vulnerable and resilient sectors. Investors must prioritize defensive industries and firms with non-German revenue exposure to navigate this landscape. The path to alpha lies not in betting on Merz's reforms but in hedging against the storm.

Final Call: Stay defensive. The DAX may rebound on temporary optimism, but lasting returns will come from sectors unshackled from Germany's export-dependent past.