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Investing.com -- European equities enter the third-quarter reporting season with optimism tempered by stretched valuations and lingering macro risks.
According to Barclays strategists, “earnings remain a key backstop for equities against geopolitical jitters,” with roughly 65% of the Stoxx 600’s market cap set to report over the next five weeks.
Consensus expects zero year-on-year earnings growth for Europe in Q3, compared with 8% in the U.S., although improving PMIs, resilient GDP indicators, and positive data surprises provide scope for upside surprises.
The strategists highlight that “room for beats” exists as expectations have been sharply cut in recent months, particularly for cyclicals and exporters hurt by euro strength and tariff uncertainty.
Forex exchange (FX) remains a drag, especially after a strong euro weighed on Q2 figures, but the impact is now better understood and partially priced in.
While European firms continue to flag currency pressures more than tariffs, investors will closely monitor commentary on margin resilience and Q3 exit rates.
So far this year, equity gains have been driven less by earnings progression and more by multiple expansion. Europe trades on around 14.5 times forward earnings versus 23 times in the U.S., yet Barclays warns that “P/E re-rating puts 2026 estimates against the wall.”
The market has “largely ignored the lacklustre earnings dynamics, powered ahead by rising liquidity and the AI boom,” leaving less cushion if fundamentals fall short, strategists led by Emmanuel Cau said.
Consensus sees 12% EPS growth for Europe next year, driven by easier comparables, but Barclays’ own model points closer to 8%, implying estimates may need to be revised lower rather than raised.
Cyclicals have rallied sharply since Liberation Day, outperforming defensives by 8%, helped by re-rating rather than earnings upgrades.
“Expect more dispersion among Cyclicals,” strategists wrote, as consensus looks for a 5% earnings contraction in 2025 before a rebound in 2026.
With cyclicals now trading at a 30% premium to defensives on forward P/E, delivery will need to be strong to justify positioning. Aerospace and Defence, Mining and Capital Goods are cited as sectors trading above their recent valuation peaks.
Options markets point to heightened stock-level volatility, with implied earnings moves around 4.5%, near two-year highs.
Industrials, Consumer Discretionary and Financials rank among sectors with the most elevated implied moves, while Tech and Real Estate appear more muted despite participating in the broader rebound.
Europe’s relative valuation appeal versus the U.S. rests on the delivery of 2026 earnings. Domestic sectors like banks and insurance retain strong momentum, while autos, media and chemicals lag on EPS revisions.
For now, strategists argue that earnings season can still “provide some reassurance to investors,” but with positioning no longer light, any disappointments could trigger sharper differentiation beneath the surface.