European Equity Markets Surge in January: A Shift in Global Investment Trends

Are European Stocks Finally Closing the Valuation Gap?

In January 2025, European equity markets delivered a standout performance, outpacing global peers as investor sentiment shifted. The Stoxx Europe 600 index surged 6.3%, marking its strongest monthly performance since November 2023, while London’s FTSE 100 climbed 6.1% to a record high. By contrast, the US S&P 500 gained a more modest 3%, and Japan’s Topix barely moved, rising just 0.1%. The question now is whether this rally signals a more sustained rotation into European stocks or a temporary divergence from long-standing underperformance.

Key Drivers Behind the European Market Rally

1. Tariff Concerns Ease

   European stocks received a boost as US tariff fears subsided. While the Biden administration proceeded with tariffs on goods from Mexico, Canada, and China, it refrained from imposing similar levies on the euro area. This provided relief to European exporters, particularly in manufacturing-heavy economies like Germany and France, which send roughly 20% of their exports to the US.

2. Rotation Away from US Tech

   Investors moved out of US technology stocks, driven by concerns over lofty valuations and increased competition. The emergence of China’s DeepSeek as a credible AI competitor rattled markets, contributing to a sell-off in high-growth tech names. This benefited European equities, which have significantly less exposure to the technology sector—only 8% of the Stoxx Europe 600 consists of IT firms, compared to 30% in the S&P 500.

3. Attractive Valuations and Sectoral Strength

   European stocks have long traded at a discount relative to their US counterparts, with valuations nearing their widest gap since the late 1980s. The UK market, in particular, has seen renewed investor interest due to its combination of low valuations and resilient earnings potential. Defensive sectors such as banks, pharmaceuticals, and luxury goods have performed well, benefiting from global demand and shifting investor sentiment.

4. Central Bank Policy and Inflation Outlook

   The European Central Bank (ECB) is expected to cut interest rates in 2025 to stimulate growth, while in the US, the Federal Reserve may need to keep rates higher for longer due to persistent inflationary pressures. This divergence in monetary policy could further support European equities, as lower rates typically provide a tailwind for equity markets.

Is This a Turning Point for European Equities?

While January’s rally is encouraging, structural challenges remain. The Eurozone economy has struggled with sluggish growth, energy price volatility, and political uncertainties. The fourth quarter of 2024 saw the Eurozone economy stagnate, in contrast to the US, where GDP growth has remained resilient.

However, the case for European equities remains compelling. The region offers attractive valuations, diversified sector exposure, and a potential hedge against US market risks. If inflation concerns intensify in the US, driving investors towards relatively cheaper markets, European equities could continue to see inflows.

MY OUTLOOK: A Strategic Shift or a Short-Term Play?

In my view, the recent outperformance of European stocks presents an opportunity for investors seeking diversification and value. The combination of easing tariff risks, sectoral rotation, and a favourable monetary policy outlook creates a supportive environment for continued gains. However, investors must remain selective, focusing on high-quality companies with strong fundamentals and pricing power.

The question now is whether Europe can sustain this momentum. If economic conditions improve and interest rate cuts materialise, the valuation gap between European and US equities may begin to narrow. For now, European markets appear well-positioned for further upside, but macroeconomic developments will be key in determining whether this rally has real staying power.