While optimism around Europe is rising following significant changes in Germany and the start of Ukraine ceasefire talks, earnings growth for European equities still lags US stocks.
Wealth managers are increasingly speaking to clients about the opportunities and challenges of investing in Europe, which is undergoing a fundamental shift in its defence and energy strategies, accelerated by recent geopolitical upheavals.
This transformation has served as a "wake-up call", particularly for Germany, which is confronting the realities of energy dependency and defence vulnerabilities, according to Alexandre Drabowicz, chief investment officer at Indosuez Wealth Management, which has a presence in Hong Kong, Singapore and Zurich, in addition to its Paris headquarters.
"The combination of Trump's policies and Germany's recent elections has forced Europe, especially Germany, to recognise the need for bold actions," says Mr Drabowicz.
President Donald Trump's aggressive stance, particularly his rhetoric around reducing Nato commitments, has sent shockwaves across Europe, prompting countries to rethink their strategies. His once theoretical "America First" approach has now become a reality, encouraging many in Europe to assert greater independence.
Germany’s decision to revise its debt brake and increase defence spending marks a historic shift. The defence budget will approach 3 per cent of GDP, a significant change, with €500bn ($540bn) allocated for infrastructure investments over the next 12 years. "This is unprecedented for Germany and could set the tone for the rest of Europe," says Mr Drabowicz.
High energy
Europe, particularly Germany, must turn to nuclear energy, a sector in which France has long been a leader, in order to fuel growth plans, believes Mr Drabowicz. "Germany will certainly have to go in that direction," he says, emphasising the importance of a “robust energy transition”.
Political developments highlight the need for Europe to develop sustainable energy solutions less vulnerable to geopolitical disruptions, ensuring both energy security and economic stability.
This shift in Germany has been driven by both the election results and broader strategic recalculations spurred by Mr Trump’s policies.
"Without Trump’s actions, Europe would not have felt the same urgency to act," stresses Mr Drabowicz. The new defence and infrastructure plan is not only a response to immediate threats but also an investment in Germany’s long-term economic and security future.
"Germany’s spending on infrastructure will create positive economic spillovers across Europe," he adds, noting that the Dutch and French economies will also benefit.
As Europe looks to Germany for leadership, the question remains: can the continent transition from a passive player to a resilient, self-sufficient entity? Mr Drabowicz remains cautiously optimistic, asserting that Europe’s current trajectory offers hope, but it depends on sustained political and economic co-operation across the region. "It comes down to the realisation, particularly in Germany, that bold actions must be taken," he says.
With the possibility of a ceasefire in Ukraine, Europe could see a revival of investment fortunes, shifting perceptions of the region from one dominated by risk premiums. Indosuez has returned to a neutral stance on European equities. However, Mr Drabowicz remains cautious about the rapid re-rating of European equities.
While optimism is rising, he notes that earnings growth has yet to follow suit. "The performance differential between US and European markets in euro terms is close to 20 per cent... that's significant," he says. "We need to see if this is followed by positive earnings momentum."
Renewable and profitable
Also high on the agenda for European wealth managers and their clients is the integration of environmental, social and governance (ESG) factors into investment decisions, which has become particularly contentious in the US.
While Europe has long embraced ESG practices, some US states have pushed back, arguing such considerations undermine the fiduciary duty to prioritise financial performance. While Mr Trump has been vocal in his scepticism of ESG, Europe has taken a more proactive stance. "Europe is much more advanced when it comes to ESG practices," explains Mr Drabowicz, emphasising the continent’s growing commitment to sustainable energy and its leadership in this area.
However, he remains pragmatic about the differences, noting US companies, even in traditionally conservative states, are still investing in renewable energy, where it makes economic sense.
"If renewable energy is profitable, companies will invest in it," he says, pointing out that energy companies in Texas and Florida are already heavily invested in renewables, despite negative political rhetoric.
"No fund manager would invest in a company that is poorly managed from a governance point of view, that is polluting, facing fines, lacking employee safety, and suffering reputational damage," says Mr Drabowicz. "ESG is a way to enhance how you analyse a company from both a financial and extra-financial perspective, because it affects the business."
When ESG is approached pragmatically, it’s not just about social responsibility but also about understanding a company’s financial health. This view is shared even in conservative, oil-rich regions, where major energy companies, despite criticism of some government subsidies, are investing heavily in renewable energy, if it proves profitable.
For the energy transition to succeed, sustainability must be economically viable. "You cannot always rely on governance and subsidies," he says. This outlook on global energy transition and sustainability emphasises that these issues are about making sound, profitable investments in a rapidly changing world.
The future of ESG integration, according to Indosuez, depends on creating market-driven solutions that combine profitability with sustainability.
