At the time of the US stock market hitting new highs, European stocks lose their advantage, but don't forget about the euro.

In early 2025, driven by the erratic policies in the United States and a once-in-a-century fiscal policy shift in Germany, European stock markets briefly outperformed the US stock market. However, now the US stocks have caught up. As of last Friday's close, the pan-European Stoxx 600 index has risen by 6.6% so far this year, while the S&P 500 index has risen by 6.8% during the same period. In March, the Stoxx 600 index had outperformed the S&P 500 index by 10 percentage points. Although the advantage of European stocks over US stocks is no longer apparent, the advantage of Europe in terms of exchange rates still exists. As of now, the euro to dollar exchange rate has risen by 14% this year. Max Castelli, Global Head of Sovereign Market Strategy at UBS Group AG Asset Management, stated that the key test for the rotation of US-Europe assets lies in trade negotiations and new tax and spending measures in the US. He said, "I don't think the 'American exceptionalism' will return with the same intensity and strength, but I also cannot rule out the possibility that the period of significant outperformance of European assets compared to US products may have come to an end." Below is a detailed analysis of the performance comparison between the US and Europe markets. Tech stocks make a comeback Marija Veitmane, Head of Equity Research at State Street Global Markets, stated that the US stock market started rebounding from mid-April, partly due to the "trade war shifting towards negotiations," but the "real turning point" came during earnings season, "when tech company CEOs came out and said 'our earnings will be very strong.'" The tech sector accounts for about one-third of the S&P 500 index. Since early April, the sector has risen by 24%, despite experiencing a sharp decline due to President Trump's announcement of so-called "tariffs." NVIDIA Corporation (NVDA.US) once again became the world's largest company by market value, with a remarkable increase of 45% since early April, a company in Europe that can compete with it is almost non-existent. Hold the line Despite the S&P 500 index reaching new highs, not all investors are eager to return to the US stock market, indicating that current valuations may be too high. Madeleine Ronner, Senior Portfolio Manager for Equities at DWS Asset Management, stated, "Trump's tariff announcements show how quickly market sentiment can change, and also what danger these high valuations (in US stocks) represent." She added that European market valuations are more reasonable. Although the valuation gap seemed justified in the past due to slow earnings growth of European companies, she pointed out, "Now that European earnings per share (EPS) are starting to rise, this gap is narrowing, and valuations should reflect this change." DWS predicts that the GDP growth rates of the US and Europe will be roughly equivalent in 2025 and 2026, providing continued support for European corporate earnings. Can defense stocks continue to be bought? Investors have heavily bought European stocks, but mainly focused on a few sectors. Among them, the defense sector has risen by 50% this year, and the banking sector has risen by 28%, far outperforming the overall European stock market, indicating that investors remain cautious about the overall market. According to estimates by BNP Paribas, these two sectors, although accounting for only 16% of the Stoxx 600 index, have contributed to over 50% of the returns. This is not surprising, as NATO members have agreed to increase defense spending, especially Germany. However, the valuation of the defense sector is now too high. For example, the forward price-earnings ratio of the German defense giant Rheinmetall has exceeded 50 times; in comparison, Apple Inc. (AAPL.US) and Microsoft Corporation (MSFT.US) have forward price-earnings ratios of about 30 times. Euro more favored The situation is clearer in terms of exchange rates. The euro to dollar exchange rate is currently approaching a four-year high, close to 1.20. At the beginning of the year, many analysts predicted that the euro to dollar exchange rate would fall below parity because there seemed to be strong demand for US assets in the market at that time. However, when this trend reversed, the euro began to appreciate. As foreign investors holding US stocks and bonds became concerned about the continued weakening of the dollar, they began to strengthen their currency hedges, making the euro's appreciation trend more apparent. Today, even if there is no longer a situation of capital outflow from US assets, the euro is still seen favorably. George Saravelos, Head of Foreign Exchange Strategy at Deutsche Bank Aktiengesellschaft, wrote in a report, "Foreign investors do not need to sell US assets to weaken the dollar, just saying 'thank you, I will not buy anymore' is enough." Exchange rates are crucial Exchange rate fluctuations also affect stock market investors, making European stocks cheaper for US investors and US stocks more expensive for European investors. Although the S&P 500 index is at an all-time high for US investors, when priced in euros, it is 9% lower than the high point in February. On the other hand, the pan-European Stoxx 600 index, while not yet back to its historical peak in March when priced in local currency, hit a new high in late June when priced in US dollars. Madeleine Ronner said, "For investors priced in euros, exchange rate movements have almost wiped out all their returns on US assets this year." "If the market experiences another pullback, it will be even worse when converted into euros ."