Behind the new highs in European stocks: funds rotating from U.S. stocks to European stocks

European stock markets unexpectedly gained favor this month after recording one of their worst years relative to the United States in 2024.

On January 22, European stocks broke through the historical high set on September 27, 2024, reaching new heights. As of the time of publication, the European stock index STOXX 600 was up 0.73%. Healthcare and industrial stocks were the biggest gainers, with Novo Nordisk providing the largest single boost to the index.

In a report titled "Make Europe Great Again" released on January 21, Bank of America pointed out that if the concerns over Trump’s tariffs and disorderly bonds in January were unfounded, asset allocation would maintain a risk appetite, allowing lagging risk assets to catch up. The bank's fund manager survey showed a rotation of funds from U.S. stocks to European stocks, with the allocation to European stocks experiencing the second-largest increase in the past twenty-five years.

The threat of tariffs from U.S. President Trump did not significantly affect investor sentiment. The market began to believe that the tariffs might not be as bad as feared.

The market believes tariffs shouldn't be as bad as feared

Bank of America’s fund manager survey indicated that in January, the allocation to European stocks saw the second-largest increase in the past twenty-five years, with a significant rotation from U.S. stocks to European stocks, causing the allocation to European stocks to surge from a low of 22% to an overweight of 1%, while the allocation to U.S. stocks dropped from a record overweight of 36% in December to an overweight of 19%.

“Europe is currently a good choice, especially since we will have some important triggers, such as the German elections next month,” said Alberto Tocchio, portfolio manager at Kairos Partners:

“Tariffs are another topic worth watching in the short term, but the market believes they shouldn't be as bad as feared.”

AllianceBernstein analyst Thorsten Winkelmann believes that not all European companies will be equally impacted. Companies with strong pricing power, localized operations, optimized supply chains, and dominance in niche markets will be better able to withstand potential negative impacts.

“Some European companies operate in the U.S. and may even benefit from U.S. tariffs, especially in the industrial sector.”

For example, Diploma and Beijer Ref are less likely to be affected by U.S. tariffs due to their local operations and suppliers in the U.S. Another example is the Swedish multinational Atlas Copco, which provides tools, equipment, and services for the manufacturing, mining, and construction industries. Due to its diversified revenue sources and extensive global business network, it is less susceptible to challenges from any single regional economy In addition, although tariffs will significantly increase costs, these costs are often passed on to customers, and not every European company will immediately suffer a loss in demand. The impact will depend on many factors, including the company's competitive position and pricing power.

European Stock Market Valuation Advantage Highlights

The main driver of the rise on Wednesday was the strong performance of technology and healthcare stocks. The healthcare sector rose by 1%, driven by a 2.3% increase in Novo Nordisk's stock price. Additionally, Adidas's stock surged by 6.3% after releasing preliminary fourth-quarter results that exceeded expectations, highlighting strong holiday sales and profits.

Regarding investor sentiment towards U.S. stocks, AJ Bell's Investment Director Russ Mould pointed out that the market has somewhat prepared for bad news due to the lack of a clear tariff plan.

As for the recent strong performance of the European stock market, many investors have begun actively purchasing European stocks, especially as U.S. stock market valuations gradually rise, seeking more reasonably priced investment opportunities has also become a major driving factor.

With increasing market attention on the European stock market, the European Central Bank's monetary policy has also been widely discussed. President Christine Lagarde stated at the Davos meeting that lowering interest rates has become a trend. The market currently expects that a rate cut next week is almost a certainty