Europe’s third-quarter earnings season has provided unexpected optimism for investors, as companies across multiple sectors have managed to exceed market expectations, even in the face of global economic challenges. Despite significant challenges posed by China’s slowing economy, high energy costs, and a generally sluggish domestic market, more than half of the companies in the STOXX 600 have reported earnings that surpassed analysts' expectations. This outperformance has created a positive momentum that contrasts with previous quarters, where investor sentiment had been notably pessimistic. As the U.S. election adds another layer of uncertainty, the European market’s resilience in the face of these headwinds has become a central story in Q3.
This quarter’s earnings season has unveiled several important trends, and investors are drawing five key lessons from these earnings results. While many sectors are facing unique challenges, the overall market reaction has been encouraging, signaling a more optimistic outlook for European stocks despite underlying uncertainties.
Earnings Beats Get a Strong Market Reaction
For the first time in several quarters, European companies that exceeded analysts' expectations saw stronger market reactions, significantly boosting their share prices on earnings announcements. Data from Bank of America Global Research shows that stocks surpassing earnings forecasts gained an average of 1.8% on the day of their announcements, marking the second-strongest reaction in over a decade. This indicates that while investor expectations were low, companies have managed to surpass them, leading to sharp gains for firms posting positive surprises.
One of the main reasons for this is the lowered expectations set before the season. In the months leading up to the quarter, analysts slashed their growth forecasts by approximately 380 basis points, giving companies a relatively low benchmark to exceed. Traditionally, these downward revisions are closer to 100 basis points, making this quarter’s baseline one of the lowest in recent history. Consequently, this lower threshold meant that many companies were able to clear it, resulting in positive surprises and rewarding investors for their patience.
China's Economic Slowdown Continues to Impact Key Sectors
One of the recurring themes in Q3 earnings reports was the impact of a weakened Chinese economy on Europe’s cyclical sectors, especially luxury, automotive, and energy. For years, China has been a major growth driver for many European businesses, but the country’s economic deceleration has weighed heavily on earnings. European companies with significant exposure to Chinese markets, such as LVMH, Mercedes-Benz, and BP, reported lackluster sales in the region, dampening their overall performance.
Luxury and automotive firms have been hit particularly hard. LVMH, the world’s largest luxury group, noted a slowdown in demand from China, which had previously been one of its fastest-growing markets. Similarly, carmakers like Mercedes-Benz and Volkswagen acknowledged the pressure that weak Chinese demand has put on their bottom lines. This trend is expected to continue in the near term, as the Chinese government’s stimulus measures have yet to fully trickle down to consumer demand, leaving companies to navigate a more challenging market landscape.
Chinese Stimulus Sparks Hope, But Results Yet to Show
Despite the adverse effects of China’s slow growth, there remains some optimism that the government’s recent stimulus measures will revive demand. In September, China unveiled several aggressive fiscal and monetary policies to stimulate economic activity, including increased infrastructure investment and reductions in key lending rates. These actions are aimed at revitalizing demand and supporting businesses, but investors are awaiting concrete signs that these measures will lead to meaningful improvements in consumer spending.
Some analysts believe that European firms may benefit from this stimulus in the long term, but the current situation requires patience. Bernie Ahkong, Chief Investment Officer at UBS O'Connor, emphasized that while optimism is reasonable, concrete evidence of the stimulus impacting corporate earnings is still needed. Until then, sectors exposed to China may continue to experience volatility, and some investors are adopting a cautious stance, waiting for data that shows real progress in the Chinese economy.
Banking Sector Rides High on Interest Rates
One of the few bright spots in European earnings was the banking sector, which continued to benefit from the high interest rates set by the European Central Bank (ECB). Elevated rates have supported bank margins, allowing financial institutions to post strong earnings growth in Q3. Data from LSEG I/B/E/S estimates that financial firms saw earnings growth of 20.6%, the third-highest growth rate among all European sectors. This has driven positive performance for several major banks and encouraged optimism that higher rates will continue to provide strong margins.
Even though there are indications that the ECB might slow the pace of rate hikes, the consensus is that rates will remain structurally higher than in previous cycles. This has led some investors to believe that banks are well-positioned for future growth as they continue to capitalize on elevated interest rates. Thomas McGarrity, head of equities at RBC Wealth Management, stated that this new environment creates a favorable climate for banks, which are unlikely to return to the low-margin pressures of prior years.
Weak Domestic Growth Dampens Outlook for Small- and Mid-Caps
While large, multinational corporations have largely managed to offset domestic stagnation with international sales, smaller European firms are not as fortunate. Many small- and mid-cap companies, which are more reliant on domestic markets, have struggled due to Europe’s subdued economic conditions, driven by high energy costs and sluggish demand. As a result, the outlook for these firms remains challenging, and there are concerns about the lack of significant growth catalysts on the horizon.
However, some investors see this as an opportunity, as smaller companies are now trading at relatively low valuations. Marlborough fund manager David Walton, who focuses on small- and mid-cap stocks, noted that these firms offer potential for long-term gains. “We’re in a situation where it’s unclear whether there will be a meaningful recovery in 2025, but that creates an opportunity because we’re able to buy companies at low valuations,” Walton said.
Indeed, European equities are trading below their historical averages, with large companies valued at around 13.6 times their 12-month forward earnings, compared to a long-term average of 14.3. For mid-cap companies, the valuation is even lower, making them potentially attractive for investors willing to take on higher risk for long-term gains.
A Volatile Yet Hopeful Outlook for European Markets
The third-quarter earnings season in Europe has proven to be a test of resilience. Many companies have exceeded expectations, partly due to the low benchmarks set by analysts, but ongoing challenges in key markets like China and a lackluster domestic economy continue to pose risks. Investors have rewarded earnings beats more than they have punished misses, signaling a cautiously optimistic outlook, even as U.S. election uncertainties add an extra layer of volatility.
Looking ahead, Europe’s market dynamics suggest that sectors with strong fundamentals, such as banking, will continue to perform well, while others exposed to China or reliant on domestic growth may face a slower path to recovery. With global uncertainties and structural economic challenges, European investors are navigating a complex landscape, balancing short-term risks with the potential for long-term rewards.
(Source:www.marketscreener.com)
This quarter’s earnings season has unveiled several important trends, and investors are drawing five key lessons from these earnings results. While many sectors are facing unique challenges, the overall market reaction has been encouraging, signaling a more optimistic outlook for European stocks despite underlying uncertainties.
Earnings Beats Get a Strong Market Reaction
For the first time in several quarters, European companies that exceeded analysts' expectations saw stronger market reactions, significantly boosting their share prices on earnings announcements. Data from Bank of America Global Research shows that stocks surpassing earnings forecasts gained an average of 1.8% on the day of their announcements, marking the second-strongest reaction in over a decade. This indicates that while investor expectations were low, companies have managed to surpass them, leading to sharp gains for firms posting positive surprises.
One of the main reasons for this is the lowered expectations set before the season. In the months leading up to the quarter, analysts slashed their growth forecasts by approximately 380 basis points, giving companies a relatively low benchmark to exceed. Traditionally, these downward revisions are closer to 100 basis points, making this quarter’s baseline one of the lowest in recent history. Consequently, this lower threshold meant that many companies were able to clear it, resulting in positive surprises and rewarding investors for their patience.
China's Economic Slowdown Continues to Impact Key Sectors
One of the recurring themes in Q3 earnings reports was the impact of a weakened Chinese economy on Europe’s cyclical sectors, especially luxury, automotive, and energy. For years, China has been a major growth driver for many European businesses, but the country’s economic deceleration has weighed heavily on earnings. European companies with significant exposure to Chinese markets, such as LVMH, Mercedes-Benz, and BP, reported lackluster sales in the region, dampening their overall performance.
Luxury and automotive firms have been hit particularly hard. LVMH, the world’s largest luxury group, noted a slowdown in demand from China, which had previously been one of its fastest-growing markets. Similarly, carmakers like Mercedes-Benz and Volkswagen acknowledged the pressure that weak Chinese demand has put on their bottom lines. This trend is expected to continue in the near term, as the Chinese government’s stimulus measures have yet to fully trickle down to consumer demand, leaving companies to navigate a more challenging market landscape.
Chinese Stimulus Sparks Hope, But Results Yet to Show
Despite the adverse effects of China’s slow growth, there remains some optimism that the government’s recent stimulus measures will revive demand. In September, China unveiled several aggressive fiscal and monetary policies to stimulate economic activity, including increased infrastructure investment and reductions in key lending rates. These actions are aimed at revitalizing demand and supporting businesses, but investors are awaiting concrete signs that these measures will lead to meaningful improvements in consumer spending.
Some analysts believe that European firms may benefit from this stimulus in the long term, but the current situation requires patience. Bernie Ahkong, Chief Investment Officer at UBS O'Connor, emphasized that while optimism is reasonable, concrete evidence of the stimulus impacting corporate earnings is still needed. Until then, sectors exposed to China may continue to experience volatility, and some investors are adopting a cautious stance, waiting for data that shows real progress in the Chinese economy.
Banking Sector Rides High on Interest Rates
One of the few bright spots in European earnings was the banking sector, which continued to benefit from the high interest rates set by the European Central Bank (ECB). Elevated rates have supported bank margins, allowing financial institutions to post strong earnings growth in Q3. Data from LSEG I/B/E/S estimates that financial firms saw earnings growth of 20.6%, the third-highest growth rate among all European sectors. This has driven positive performance for several major banks and encouraged optimism that higher rates will continue to provide strong margins.
Even though there are indications that the ECB might slow the pace of rate hikes, the consensus is that rates will remain structurally higher than in previous cycles. This has led some investors to believe that banks are well-positioned for future growth as they continue to capitalize on elevated interest rates. Thomas McGarrity, head of equities at RBC Wealth Management, stated that this new environment creates a favorable climate for banks, which are unlikely to return to the low-margin pressures of prior years.
Weak Domestic Growth Dampens Outlook for Small- and Mid-Caps
While large, multinational corporations have largely managed to offset domestic stagnation with international sales, smaller European firms are not as fortunate. Many small- and mid-cap companies, which are more reliant on domestic markets, have struggled due to Europe’s subdued economic conditions, driven by high energy costs and sluggish demand. As a result, the outlook for these firms remains challenging, and there are concerns about the lack of significant growth catalysts on the horizon.
However, some investors see this as an opportunity, as smaller companies are now trading at relatively low valuations. Marlborough fund manager David Walton, who focuses on small- and mid-cap stocks, noted that these firms offer potential for long-term gains. “We’re in a situation where it’s unclear whether there will be a meaningful recovery in 2025, but that creates an opportunity because we’re able to buy companies at low valuations,” Walton said.
Indeed, European equities are trading below their historical averages, with large companies valued at around 13.6 times their 12-month forward earnings, compared to a long-term average of 14.3. For mid-cap companies, the valuation is even lower, making them potentially attractive for investors willing to take on higher risk for long-term gains.
A Volatile Yet Hopeful Outlook for European Markets
The third-quarter earnings season in Europe has proven to be a test of resilience. Many companies have exceeded expectations, partly due to the low benchmarks set by analysts, but ongoing challenges in key markets like China and a lackluster domestic economy continue to pose risks. Investors have rewarded earnings beats more than they have punished misses, signaling a cautiously optimistic outlook, even as U.S. election uncertainties add an extra layer of volatility.
Looking ahead, Europe’s market dynamics suggest that sectors with strong fundamentals, such as banking, will continue to perform well, while others exposed to China or reliant on domestic growth may face a slower path to recovery. With global uncertainties and structural economic challenges, European investors are navigating a complex landscape, balancing short-term risks with the potential for long-term rewards.
(Source:www.marketscreener.com)