European equities have outperformed in 2025. The MSCI Europe benchmark has gained 11% year-to-date in USD terms, outpacing the S&P 500’s 4% and the MSCI All Country World Index’s 6%. Factors such as the ECB’s accommodative monetary policy and attractive European valuations have drawn investors. More recently, news of a potential resolution to the Russia-Ukraine conflict has further fueled optimism. However, while these developments are encouraging, it may still be premature to adopt an overweight stance on European equities.
There are reasons for optimism. A potential ceasefire could ease natural gas and electricity prices, which are still 106% higher in Europe than in the U.S. This will help ease cost pressures on European industrials. Additionally, post-war rebuilding efforts could reach $500 billion, according to World Bank estimates, and will drive demand for construction, materials, and infrastructure. Improved trade flows and investor confidence could also strengthen the euro, benefiting European multinational companies. We could also see a reversal of flows into European equities, which have been suffering consistent outflows since the war began in February 2022.
However, several risks remain that could temper the current rally. Trade tensions with the U.S., particularly the threat of tariffs to key sectors such as automobiles, could hurt European exports. Moreover, the exclusion of Ukraine and European representatives from recent peace talks between Russia and the U.S. raised concerns about the legitimacy and effectiveness of any potential resolution. On the macroeconomic front, Europe continues to face structural challenges, including low productivity growth, a lack of innovation, and political uncertainty within key countries such as Germany and France.
Given this backdrop, we believe maintaining a neutral stance on European equities remains the most prudent approach. While there are positive drivers at play, headwinds such as tariff threats, geopolitical risks and long-term fundamental issues remain. Investors should maintain exposure to Europe and refrain from overweighting. At this stage, waiting for more clarity on geopolitics and tariffs may present a more favorable risk-reward balance than chasing the recent rally.
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