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By Danilo Masoni
MILAN (Reuters) -A rally in Deutsche Boerse (ETR:DB1Gn) shares illustrates how Europe is bridging a value gap with its Wall Street peers, as fiscal stimulus and a shift in global capital flows help drive a broad re-rating from depressed levels.
Following a near 30% rally so far this year, the German exchange operator hit a record valuation of 25 times expected earnings, briefly surpassing all four of its major U.S. competitors by a thin margin for only the second time on record.
This is a significant milestone in a region that over the past decade has displayed a substantial discount to the United States due to slower earnings growth and shallower capital markets.
A year ago, the Frankfurt group traded at a 12-19% discount to U.S. exchanges ICE, Nasdaq, CME and CBOE. Now they all trade in a band of 23-25 times forward earnings. Euronext (EPA:ENX) is catching up fast too, at 20 times, while LSEG trades at 27 times forward earnings.
After hitting a record 41% discount to Wall Street in November, Europe’s valuation gap has shrunk by around 10 percentage points, LSEG data based on a forward price-to-earnings metric shows, a still sizeable difference.
"It doesn’t take a lot to start thinking maybe it’s time for a re-rating," said Markus Hansen, a portfolio manager at Swiss investment manager Vontobel. "The valuations elastic band was so stretched that there is still more to give on this."
U.S. tariff risks have not deterred investors from raising allocations to Europe this year, marking a reversal from years of outflows driven by American "exceptionalism".
Europe’s broad STOXX 600 index has gained 8.5% so far this year, the S&P 500 is up less than 1%.
Anthilia fund manager Giuseppe Sersale said the re-rating also reflects renewed earnings momentum after a long stagnation and he expects the European discount to narrow further.
European earnings growth is expected to accelerate to above 11% next year, but the American benchmark is still forecast to show superior growth until 2027, per LSEG data, suggesting profit forecasts alone do not explain this year’s rare STOXX outperformance.
A willingness by investors to pay more for European equities is helped by improving visibility over economic policy versus a less predictable Washington, German fiscal stimulus and a Europe-wide military spending boom that has boosted the perception of closer integration.
High-flying defence stocks like Rheinmetall (ETR:RHMG) have overshot Wall Street counterparts. However, banks - heavy contributors to Madrid and Milan’s indexes - have only partly re-rated to U.S. peers, with Vontobel’s Hansen saying there is further to go.
LIKE THE 90S
Some investors are drawing parallels with the period between 1992 and 1999 when a cohesive European policy backdrop supported stock valuations and Europe traded at an average discount of just 2.7% to Wall Street, widening to only around 8.5% in the first half of the 2000s.
Analysts said further gains in the present day could be driven by the creation of a European savings and investment (SIU) union aimed at mobilising $37 trillion in household savings and deepening European capital markets.
Under a "Blue Sky" scenario of major reforms around the saving union materialising, Morgan Stanley strategist Marina Zavolock sees European stocks potentially re-rating above 20 times forward earnings in the long-term.
The MSCI USA index trades at 21.5 times expected earnings and the MSCI Europe at 14.7 times, up from a 2022 low of 10.6 times, LSEG data shows.
Europe’s exchange stocks should also benefit as greater volatility lifts trading volumes, analysts said.
Tom Mills at Jefferies said Deutsche Boerse, which operates Germany’s DAX index, should gain from the SIU.
His top pick though is Euronext, which runs Paris and Milan, where luxury stocks LVMH and Ferrari are listed, along with many other bourses in Europe.