Evaluating the worth of European stock markets: Yes or No?
In 2025, earnings at listed European companies are expected to stagnate for the second year in a row, mirroring the struggles faced by European stocks this year. Despite these challenges, certain Exchange-Traded Funds (ETFs) like JPMorgan's Europe Research Enhanced Index Equity ETF (LSE: JERE) are offering investors opportunities to capitalise on the continent's potential for outperformance.
JPMorgan's Europe Research Enhanced Index Equity ETF is overweight in the UK, energy names such as Shell, and the Dutch semi-conductor equipment manufacturer ASML, while underweighting another tech champion, SAP. The ETF has an expense ratio of just 0.25% and has returned 9.2% annually since its launch in October 2018, compared to 8% for the MSCI Europe Index.
However, European equities are trading at their most significant discount to US counterparts since at least 2003. This undervaluation can be attributed to several key factors.
Firstly, Europe has generated little aggregate economic profit since the Global Financial Crisis, whereas the US has seen its economic profit grow more than 2.5 times over the same period. European companies tend to be more export-oriented and sensitive to global economic uncertainties and geopolitical risks, which can weigh on investor sentiment and valuations relative to the US.
Secondly, Europe's weaker capacity utilization and structural inefficiencies have dampened its cash flow return on investment and earnings growth compared to the US. European markets like the S&P Europe 350 traded below their 15-year average P/E ratio in mid-2025, indicating undervaluation relative to historical norms and compared to US indices like the S&P 500.
Thirdly, differences in sector composition and style contribute to the valuation disparities. European equities have historically traded at lower valuations partly due to higher exposure to industries like financials, industrials, and energy, which tend to have lower valuation multiples than the US tech-heavy market.
Fourthly, Europe is undergoing a structural transformation with increased investment in infrastructure, energy transition, and defence, supported by new fiscal frameworks and EU-level funding. These are positive developments but may take time to translate into improved profitability and valuation multiples, keeping current valuations relatively modest.
Lastly, concrete valuation metrics illustrate this undervaluation. The Morningstar Europe Index traded at a price/fair value ratio of 0.98 in late May 2025, signalling about a 2% undervaluation on aggregate. By contrast, US markets have shown stronger relative valuation multiples due to better earnings growth and economic profit trends.
In a potential snap-back scenario, substantial growth could return to European equity markets, considering the current valuation. Meanwhile, thematic plays on defence spending, energy, and healthcare offer investors opportunities to capitalise on Europe's unique challenges and reforms.
The International Monetary Fund attributes Europe's slow growth to an ageing workforce, low productivity growth, and "lack of business dynamism." Tariffs imposed by Donald Trump could amount to as much as 2% of euro-area GDP over two years, with Germany and Italy being the most vulnerable in a worst-case scenario.
Despite these challenges, Europe's GDP growth rate is expected to be 1.45% per annum over the rest of the decade, compared with 2.3% for the US. High energy costs and political chaos have hit the core economies of Europe, but opportunities for growth and investment remain.
In summary, European equities remain undervalued compared to their US counterparts, primarily due to lower economic profit creation, greater sensitivity to global economic cycles and export orientation, structural inefficiencies and capacity utilization issues, valuation disparities and sector composition differences, divergent macroeconomic policies and structural transformation, and relative valuation measures. These factors collectively explain why European equities remain undervalued despite recent strong performance and positive structural reforms underway in Europe.
Investors seeking opportunities beyond the stagnating European companies might consider JPMorgan's Europe Research Enhanced Index Equity ETF, given its potential for outperformance due to its focus on the UK, energy, and ASML. However, the ETF trades at a discount compared to US counterparts, reflecting Europe's undervaluation, which can be attributed to factors like weaker economic profit and export orientation, higher exposure to industries with lower valuation multiples, and structural transformation underway.
