European stocks rise 10% as earnings growth broadens beyond AI

European stocks have climbed 10% this year as earnings growth broadens beyond AI and banks, drawing investors back to a market long dismissed as a bargain.

European stocks have climbed 10% this year as second-quarter earnings grew 18%, the region's best reporting season in years. The Stoxx Europe 600's advance trails the S&P 500's 12% gain, but the gap has narrowed after years of underperformance.

"Growth is now widening beyond a narrow group of AI and bank stocks," said Gerry Fowler, who leads the European equity strategy team at UBS. Government spending and private investment in infrastructure, energy security and defense are creating real opportunities, he said.

European banks' total shareholder returns including dividends have beaten the Magnificent Seven over the past four years. Weekly inflows to European equity funds topped $1 billion for the first time since February, EPFR data shows. Technology makes up a tenth of the Stoxx Europe 600's weighting, compared with about 40 percent of the S&P 500.

Europe no longer looks like a zero-growth economy, and for investors worried about an AI bubble, the region offers a hedge that emerging markets cannot. Strip out energy companies that benefited from higher oil and gas prices caused by the Iran war, and European earnings still grew 7 percent in the second quarter, according to Sharon Bell, senior European equities strategist at Goldman Sachs.

Electrification and defense lead the rally

Industrial companies Siemens Energy and Schneider Electric are benefiting from demand for gas turbines and power-management technology among data center operators. Companies that make equipment to upgrade electricity grids are growing as Europe electrifies its economy to cut reliance on imported energy. Prysmian, an Italian maker of underground and submarine cables for power transmission, is up 40% this year.

The region's best-performing stocks this year supply materials for chip makers. France's Soitec has climbed 370% this year, while Austrian printed circuit-board maker AT&S is also booming. Europe has a handful of AI names including world-leading chip equipment maker ASML.

The MSCI Emerging Markets Index, because it includes Taiwan and South Korea, also holds about 40 percent of its weight in technology stocks such as chip makers Taiwan Semiconductor Manufacturing Co and SK Hynix. That leaves Europe as the developed-market index with the least direct exposure to a potential AI correction, a factor strategists say is drawing inflows from U.S.-heavy portfolios.

Laggards weigh on the index

Carmakers and auto-parts manufacturers are getting battered by competition from China, but they now make up less than 2 percent of the Stoxx Europe 600's weighting. Volkswagen is being squeezed by a flood of affordable Chinese electric vehicles. Consumer stocks are weak as Europeans save rather than spend, and alcohol companies Diageo and Pernod Ricard trade at valuation lows last seen during the 2008 global financial crisis.

Europe will take years to fix problems such as its overreliance on imported oil and gas and dense regulations that make its companies less competitive globally. But businesses are growing again, and capital is starting to return. Last week marked the first time since February that weekly inflows to European equity funds topped $1 billion, EPFR data shows, even as investors still overwhelmingly prefer the U.S.

This article is for informational purposes only and does not constitute investment advice.