Key Takeaways
- European markets have fallen and are now undervalued, but that doesn’t always mean it’s a good time to invest.
- Even if the conflict in the Middle East ends, the impact will take time to unwind.
- After the selloff, some consumer stocks now offer significant upside.
Having taken a big hit in the weeks following the start of the Middle East conflict, European stock markets are in a holding pattern as investors digest the daily updates on the conflict, adjusting the dial slightly up or down depending on signals as to when energy exports from the region may return to normal.
European equity markets are down around 10% from peak to trough and March was the worst month for the Morningstar Europe Index since March 2020, which is significant but not devastating for investors. Where the damage has been more apparent is on a sectoral basis. Consumer cyclical stocks took the biggest hit and are down 17% on the quarter, followed by financials, down almost 7%, and healthcare, around 5% lower.
Is Now the Time to Buy European Stocks?
Markets have fallen materially, but that doesn’t always mean it’s a good time to invest. In my conversations with clients over the last week or so, many told me of the opportunities that they are taking advantage of across sectors—opportunities that have only come about because of the recent market shock. Others, however, told me that they haven’t bought a single stock since the conflict began, which is understandable given market uncertainty.
European Stock Markets Are at a Discount Again
European equities are trading at an almost 10% discount to their fair value estimate, having traded at a slight premium just a month ago. The economic picture is in a dramatically different place compared to a month ago.
Inflation, having consistently remained below 2% in Europe, came in at 2.5% in March, and this is likely to rise further as the full effect of the increase in the price of oil is accounted for. Also, the rising cost of fertilizers and chemicals will work their way through the food supply chain and become apparent in consumers’ wallets.
Interest rates had been on their way down, both in Europe and the UK, with economists expecting cuts this year. This has reversed since the conflict began, with rate increases now priced in for all major markets. It doesn’t necessarily matter that the increases aren’t huge, the point is that rates are moving in the wrong direction. The big consumer recovery we had expected in 2026 could now be postponed until 2027 in the best case scenario.
Which Stocks Are Now Undervalued?
Investors may be hesitant to back the consumer sector even at current valuations. At some point, however, many stocks in the sector become too cheap to ignore. Reckitt Benckiser RKT is now offering a 33% upside, while Diageo DGE offers an even more substantial 50% upside.
For the more risk-averse, some conservative plays exist in sectors such as healthcare, with names like Sanofi SAN offering 30% upside, and Roche ROG 17%.
Recently-booming areas like defense have been caught up in the selloff, with shares moving in the wrong direction, despite the conflict likely leading to increased defense spending in the coming years. Here, giants like Rheinmetall RHM offer as much as 70% upside, and BAE Systems BA. more than 20%.
What’s the Next Global Catalyst for Stock Markets?
On average there has been one big shock per year since the pandemic, some more long-lasting than others. Markets are starting to get excited about the prospect of a swift end to the conflict in the Middle East. The positive news flow should be embraced, but context is important. It may take some time for the damage to unwind, both in terms of higher oil prices and possible changes in the direction of interest rates by central banks.
In the US, with a turnover of the House of Representatives to the Democrats very likely in the midterms, the Trump administration is under time pressure to achieve its political objectives.
While we are unlikely to see another disruptive market event like the Middle East conflict this year, there is certainly the potential for more volatility as we approach this key date. Investors should be vigilant, but also mindful of opportunities.
