Is it wise to make investments in Europe right now?

Despite the low value of European stocks, analysts think that infrastructure and defense spending may experience a resurgence

For years, Europe's stock market has been in a slump. Low growth and ongoing inflation have been problems for the EU.

In the meantime, the most popular stocks among investors have a decidedly American flavor. Much of the recent surge in global equities has come from the Magnificent Seven large tech stocks, particularly Nvidia.

However, as American exceptionalism loses its appeal, investors are now considering selling US assets due to the events of 2025 thus far.

Europe might be improving in the meantime. The European Council approved a proposal to exempt defense spending from EU fiscal rules and to create a 150 billion EU loan facility to finance military spending, among other stimulus proposals that have been approved mainly due to the desire to increase defense spending.

The purchasing power of individual nations has also increased, especially that of Germany, the biggest economy in Europe.

Co-portfolio manager of Fidelity European Trust PLC and Fidelity European Fund James Mackreides says, "Germany's new parliament has approved plans to reform the country's constitutional debt brake, thus removing constraints on defense spending."

As the uncertainty surrounding US tariffs threatens to affect the region's exports of goods, Stotzel continues, "this stimulation of the European economy has been very positively received."

Are stocks in Europe undervalued?

European stocks are maintaining their lowest valuations in decades when compared to their US counterparts, despite this year's shift away from US stocks. This makes them appealing entry points for investors who prioritize value.

Stotzel states that "the combination of attractive valuations and improving fundamentals creates favourable risk-adjusted return potential for quality-focused investors" and that "even after the recent rally, European markets continue to trade at significant discount to US counterparts."

Average valuation premiums in Europe and the US.

Figure comparing MSCI Europe to MSCI US from December 1987 to June 2025.

Additionally, European small caps are particularly cheap right now, according to Hywel Franklin, head of European equities at Mirabaud Asset Management.

He claims that some of these businesses have the potential to start surprising investors with their high valuations.

Franklin finds technology to be a particularly fascinating aspect of the equation.

He claims that the market believes artificial intelligence (AI) is a big cap story that is primarily a US story. The fact that some of the smaller businesses will be able to swiftly implement AI and reap the benefits later on may be one of the surprises of the future, in my opinion.

Spending on infrastructure and defense will increase.

In the wake of Trump's passive attitude toward the NATO alliance during his second term in office, European defense stocks have benefited handsomely this year from increased spending commitments.

He told the other alliance members in March, "I'm not going to defend them if they don't pay."

Even though Trump has since taken a slightly more pro-Ukrainian stance in his handling of the country's conflict with Russia, his announcement on August 11 that he will try to retake some of the country's lost territory during a peace summit with Putin this week has awakened Europe to the fact that it can no longer depend on the US to ensure its security.

Defense companies in Europe have made money. During the 12 months ending August 13, Rheinmetall's (DE:RHM) shares nearly tripled, while Leonardos' (MI:LDO) stock increased by 115% during the same time frame.

See BFIA's explainer: the best funds and investment trusts for European defense spending for more information on how to take advantage of the European defense opportunity.

However, stimulus plans have had an impact on more than just defense stocks as Europe tries to secure additional funding for its armed forces.

Germany's debt brake reform not only increased military spending but also opened a 500 billion infrastructure investment fund. Other nations are already benefiting from comparable investments made in the past.

Spain's economy expanded by 3.2 percent over the course of 2024, ranking fourth in the Eurozone for growth.

According to Franklin, "Spain is growing quite quickly." Because it has invested heavily in its broadband and energy infrastructure, it is truly pointing the way forward.

Norma Group, a German company that produces machine joining components used in the water piping and emission outputs as well as the aviation and automotive sectors, is Mirabauds Discovery Europe Ex-UK funds' top holding (as of June 30). This company reflects the trend in infrastructure spending.

How to make stock investments in Europe.

When choosing individual European stocks, Stotzel advises concentrating on high-quality companies.

"It is necessary to concentrate on businesses that possess particular quality attributes in order to find the most attractive prospects in this setting," he states. Clear business models, strong competitive positions, growing or stable end markets with some degree of insulation to macro changes, and prudent debt levels on the balance sheet are all characteristics of quality businesses, according to him.

Additionally, he seeks out companies that raise their dividends steadily.

A fund or investment trust could be chosen by investors who wish to diversify their exposure to Europe. Subject to shareholder approval, the largest UK-listed investment trust that targets European stocks, Fidelity European (LON:FEV), has signed a proposal to merge with the second-largest, Henderson European Trust (LON:HET).

Mirabaud Discovery Europe Ex-UK is an alternative for a small cap focus. It employs a bottom-up strategy to invest in high-conviction small caps throughout Europe, emphasizing the identification of undervalued gems.