The case for investing in European equities is never clear cut. On the positive side today we have attractive valuations, increased structural investment in defence and infrastructure, while the banking sector is profitable and well-capitalised.
However, some of the major economies continue to face significant challenges, regulation continues to hinder certain industries and the uncertainty around geopolitics has seen energy costs rise.
Last year, European equities produced the strongest returns of any major economy (26.4%). The first quarter of 2026 saw similar optimism, due to stronger earnings and improved sentiment.
However, this changed in March with the onset of conflict in the Middle East – optimism has since given way to volatility and dispersion in returns, with inflation and rising interest rates back on the radar.
It has to be a source of frustration for active managers in the space given that we have started to see some of the levers pulled in terms of Europe's improving outlook, namely the German fiscal debt break and increased spending.
As of writing, a fragile ceasefire is in place – and a resolution to these conflicts could see Europe's recovery gather speed once again.
Janus Henderson European Focus fund manager Robert Schramm-Fuchs believes the current uncertainty obscures a more constructive story for European equities, citing three structural drivers reshaping the market.
He pointed to the strategic competition for critical resources – with recent events forcing investors to rethink the strategic value of energy and the supply sources – with companies linked to commodities and the equipment to extract them likely to benefit in the long term.
He also pointed to areas of rising policy support, such as renewables (energy reliance), and selected industries that form the building blocks of the economy, such as industrial materials (steel, chemicals, etc) and manufacturing. Banking and defence also has policy support.
A third driver is the push for greater innovation – an area where he believes Europe has historically been accused of being an underperformer.
He said: "The idea that 'Europe lacks innovation' is also an oversimplification. The opportunity is increasingly found in pockets of global leadership; businesses enabling the technologies that power modern economies. This includes advanced computing, industrial automation, electrification and the infrastructure required to move power and data efficiently."
Fidelity European Trust has a diversified exposure to AI as a theme throughout the portfolio – this ranges from 'picks and shovels' holdings like Legrand, a global specialist in electrical and digital building infrastructures, and Schneider Electric.
ASML remains a core holding in the portfolio, given its monopoly in semiconductor lithography equipment, an essential part of all semiconductor manufacturing.
The broad-based winner from a ceasefire
Europe is more of a bet on industrial production, global trade, lower energy costs, consumer spending and financials. I'd argue this offers the ingredients of a broader-based recovery should tensions continue to de-escalate between the US and Iran, resulting in lower oil prices.
Goldman Sachs European portfolio strategist Sharon Bell said the largest 10 companies in the US make up 40% of the index – while in Europe it is just 15% of the market cap.
She said: "Not only is the US market concentrated in terms of size of companies and market cap, it's also concentrated in terms of returns. Very few companies have driven the returns in the US.
"In Europe it's been a bit broader. There have been similar themes. With tech, AI, and some of the companies in other sectors driven by those same themes, like industrials and utilities, for example, which are needed to power the AI revolution. And in that sense, similar themes have driven the European market as the US, but it's been much less concentrated in terms of the number of stocks."
Where are the opportunities now?
Fidelity European Trust manager Marcel Stötzel believes financials are of particular interest in the current environment – with interest rates supporting net interest margins, while valuations remain undemanding.
This creates scope for both income and a potential re-rating as confidence in earnings sustainability improves. He cited new positions in BNP Paribas as well as a position in Deutsche Borse, which he said has benefitted from higher volatility and trading activity.
He said a more contrarian opportunity is emerging in airlines, adding that while higher fuel costs are an immediate headwind, periods of disruption tend to reduce capacity and improve industry structure over time.
"Weaker operators retrench, allowing stronger companies to gain share and improve pricing. This dynamic has been evident in previous cycles. We believe holdings such as Ryanair, with its cost advantage and strong balance sheet, are well positioned to benefit as capacity tightens," he said.
Whenever markets have shown signs of uncertainty, the words diversification and balance ring loud in your head – Europe's return drivers may be less dependent on multiple expansion in long-duration growth and more anchored in cyclical earnings, pricing power and distributions – making Europe a cleaner complement to tech-heavy US exposure.
But beneath the volatility things are changing; regulatory burdens are being taken away, fiscal spending is being addressed and, perhaps most importantly of all, valuations are still attractive across the market – making this an opportunity for good active stock pickers.
Not only do you have the diversification angle, but you also have value opportunity, given the construction of the market in terms of sectors.
Funds worth considering include the WS Lightman European fund, a value offering built around academic research, which results in a portfolio of 40-50 stocks and an active share of over 80%.
Another is BlackRock Continental European Income, which invests in large and mid-caps in the region. The team does not simply search for the highest-yielding stocks but rather seeks to identify undervalued stocks in the high yield and/or quality space that offer sustainable dividends, potential dividend growth and inflation protection.
Darius McDermott is managing director of FundCalibre and Chelsea Financial Services. The views expressed above should not be taken as investment advice.