President Donald Trump’s election win last year initially led global investors to pile into US equities. But with tariffs triggering US recession fears and formerly hot tech stocks reversing, previously unloved European stocks have emerged as the winners this year.
Germany’s significantly upgraded spending plans and a renewed focus on European defense have also helped boost sector valuations. Banking stocks have continued to outperform in the UK and across the continent despite rate cuts, supported by lower valuations than overseas peers.
“Whether he meant to or not, [Trump] has probably engineered a period of European revival. And that is exactly what Europe needs. It needs their politicians coming together,“ says Will James, portfolio manager of the Guinness European Equity Income Fund, which has a Morningstar Medalist rating of Bronze.
Year to date, the Morningstar Europe Index, which includes UK holdings, has risen more than 6% in euro terms, beating the Morningstar US Market Index, which is down 5% in dollars.
UK stocks have also benefited from the rally, with the Morningstar UK Index seeing an uplift of 4% in 2025.
Europe Prepares to Go It Alone on Defense
Defense stocks have been in the vanguard of this European market rally as countries like the UK and Germany pledge to dramatically increase military spending, spurred by signals that place the United States’ commitment to European security in doubt.
Patrick Farrell, chief investment officer of Charles Stanley, is a long-term investor in UK aerospace, defense, and information security company BAE Systems BA. He notes that the high demand for military hardware has created a backlog for defense companies, but BAE has the capacity to deal with these extra orders; customers will just have to wait longer for them.
Year to date its share price is up 36%, trading at £15.74, slightly above Morningstar’s fair value estimate for the stock at £15.50.
The company, which sells many of its products to the US, could face a headwind as President Trump eyes cuts to the Pentagon’s budget. But Farrell believes that the increase in European military spending will offset any declines from the US.
Which Other European Defense Stocks Are Benefiting?
Two defense stocks in the Waverton European Continental Growth Fund, which has a Morningstar Medalist Rating of Silver, have been the fund’s best performers.
Christopher Garsten, the co-portfolio manager of the fund, is bullish on Norwegian defense stock Kongsberg Gruppen KOG, at 3.67% of the fund.
Kongsberg is up more than 25% year to date and is currently trading at above Morningstar’s fair value estimate of NOK 1,270.
Spanish information technology and defense systems business Indra Sistemas IDA is also held in the fund, making up 2.31% of the portfolio.
In 2024 Spain spent only 1.3% of GDP on defense, but as the rearmament of Europe surges, Garsten believes that Indra, a company founded by the Spanish government, will be a prime beneficiary of increased defense spending.
“The one caveat with defense stocks is that Europe has had such a long period of spending very little. We feel a lot of companies make legacy systems that are very good for fighting in World War Two but possibly not World War Three,” Garsten says.
Germany Commits to Spend Big on Defense
However, for Will James, portfolio manager of the Guinness European Equity Income Fund, increased defense spending by European governments is not the only driver of the bull run.
“What’s important today is the fact that, [Germany], the most fiscally prudent country in Europe has suddenly turned around and said we are going to spend some money,” James says.
“And that infrastructure fund is going to be focusing on transport, hospital investment, energy infrastructure, education, science, R&D and digitization.”
He believes that three French stocks, Legrand LR, Capgemini CAP, and Kaufman & Broad 3GH, will be beneficiaries of Germany’s commitment to increased government spending, which is expected to have a ripple effect across the continent. James explains that Legrand and Kaufman are directly tied to levels of construction spend in Europe, while consultancy firm Capgemini is linked to corporate confidence.
European Bank Stocks Also Outperform
European banking stocks are also riding high as they continue to benefit from elevated interest rates despite recent cuts by the Bank of England and the European Central Bank.
Matthew Bennison, UK equity fund manager at Schroders, notes the recent outperformance of European banking stocks compared to America’s Magnificent Seven tech stocks.
Standard Chartered STAN is the largest active position across Bennison’s UK equity portfolio range.
The emerging-markets focused bank has risen 17% this year and its shares are around the Morningstar fair value estimate of £11.71.
“Standard Chartered provides more international exposure than some of the other stocks within the sector, and it has a long-term growth profile because it is selling into growthier markets in places like Asia,” he says.
On the continent, European banks are also proving resilient despite a series of interest rate cuts by the European Central Bank.
Pilar Lloret-Martinez, portfolio manager of Spain’s NAO Europa Responsable Fund, which has a Morningstar Medalist Rating of Bronze, backs Italian bank Intesa Sanpaolo ISP, which makes up 4.36% of the fund.
“Results for banks have remained positive despite the fact people expected them to start to worsen as rate cuts took place. But European banks are doing extremely well, especially those that are more aggressive.”
The shares are up around 25% so far this year and are trading above their Morningstar fair value of EUR 3.50.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
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