UBS has issued a warning about the future of European equities, projecting a nearly 9% downside risk for the Stoxx 600 index by the end of 2025.
The bank's strategists anticipate that the index will decline to 470, representing an approximate 8.91% drop from current levels. This forecast is based on expectations of weak earnings, deteriorating profit margins, and ongoing macroeconomic challenges, marking a third consecutive year of stagnation for European stocks.
The bank predicts a 5% contraction in earnings per share (EPS) for the Stoxx 600 in the coming year, following two years of flat growth. The anticipated decline in earnings is attributed to the expectation that margins will contract more significantly than sales will grow. UBS strategists noted that while valuations are currently deemed appropriate, the overall outlook remains bleak, with negative earnings growth expected as companies grapple with tightening margins.
A significant factor contributing to this challenging outlook is China's economic deceleration, which poses risks to various sectors, including autos, luxury goods, and chemicals that heavily depend on Chinese demand. European companies operating in these industries will face mounting pressure from both weakening domestic consumption in China and intensifying competition in global markets. This situation is compounded by the recent re-election of President Trump, which introduces uncertainties regarding proposed U.S. trade and regulatory policies that could further complicate the landscape for European corporates, particularly in sectors such as renewables, banking, and industrials.
On the monetary policy front, UBS anticipates that the European Central Bank (ECB) will reduce interest rates to 2% by 2025, providing only modest support to GDP growth. This potential rate cut may benefit consumer sectors, which are expected to be among the most resilient in 2025. However, broader fiscal tightening across key European economies, including France and Italy, is likely to act as a headwind, offsetting some of the gains from monetary easing. UBS highlights that while this tightening may help contain risk premia, it also underscores the challenges facing the region's economic recovery.
In light of the anticipated economic landscape, UBS has expressed a preference for defensive sectors such as utilities and renewables, citing their stable earnings growth and attractive valuations. The bank is also optimistic about consumer staples and select UK-focused stocks, reflecting a relatively resilient UK economy. These sectors are expected to provide a buffer against the broader economic challenges that European equities are likely to face.
Conversely, cyclical sectors, including semiconductors, mining, and energy, are projected to encounter significant difficulties. The outlook for these industries remains mixed, with insurers expected to benefit from robust capital returns, while banks may remain vulnerable to macroeconomic and regulatory risks. This divergence in sector performance highlights the complexities of navigating the European equity landscape in the coming years, as investors weigh the potential for growth against the backdrop of persistent economic headwinds.
UBS's analysis underscores the importance of strategic positioning within the equity markets, as investors seek to identify opportunities amidst a challenging environment. The bank's insights serve as a reminder of the intricate interplay between macroeconomic factors and sector-specific dynamics, which will be crucial for stakeholders in the financial markets as they chart their course through the evolving landscape of European equities.