Forget MAGA, Investors Want MEGA: Make Europe Great Again
In recent years, European equities have found themselves lagging behind U.S. counterparts, with continuous underperformance since the financial meltdown of 2008. However, recent developments point to an intriguing reversal in fortunes. Despite earlier concerns, investors are now betting that European assets could finally witness significant growth, sparking discussions around a new financial resurgence encapsulated by the “MEGA” (Make Europe Great Again) trade.
Historical Context of European Underperformance
The struggles of European assets have been well-documented. The rise of technology magnates during the artificial intelligence boom has predominantly benefited American and Chinese firms, while Europe’s economic landscape has been marked by challenges. The war in Ukraine has substantially driven up energy costs for the continent, and the automotive sector, particularly Germany’s renowned car manufacturers, has been overshadowed by innovations from Tesla and China’s BYD in the electric vehicle (EV) sector.
Further complicating the picture were tensions stemming from a new U.S. administration threatening to impose tariffs on European goods, while Vice President JD Vance criticized the EU for its military spending and pressed EU nations to independently enhance their military capabilities.
The Shift in European Equities
Contrary to expectations of decline, the Euro Stoxx 50 index has surged by approximately 12% since the U.S. elections, overshadowing the S&P 500’s modest 3.5% increase. As reported by analytics firm EPFR, Europe-focused equity funds have experienced their most significant inflow since early 2022 as investors seek diversification into what are perceived as undervalued or “value” stocks.
Currently, European equities boast an expected earnings yield premium of 6% over inflation-protected government bonds—double that of U.S. stocks. This allure is further magnified by indicators suggesting that Germany’s persistent manufacturing recession may be nearing its end, potentially paving the way for a more robust resurgence.
The MEGA Trade Explained
The MEGA trade represents not merely a brief bounce-back but what might be a transformative phase for Europe. Veteran strategist Jordan Rochester of Mizuho highlights the collective call for reforms aimed at revitalizing European markets. Influential voices, including former European Central Bank President Mario Draghi, have rallied for a reduction in bureaucratic obstacles impeding the bloc’s internal market. This plea has gained traction with central banks from major economies—Germany, France, Italy, and Spain—seeking to ease newly implemented bank capital regulations.
Market Reforms and Bank Capitalization
A focal point of potential reform is enhancing the flexibility of European banks to manage their assets. Currently, Europe’s securitization market lags significantly behind the U.S., at only one-thirteenth the size relative to economic output. Moreover, the stagnation in cross-border mergers poses a challenge. Yet, organizations such as UniCredit are beginning to see their valuations bounce back above tangible book value, a noticeable recovery from the depths of last year.
Investment in Key Industries
As discussions surrounding strategic sectors like electric vehicles and semiconductors continue, the EU’s approval of €920 million ($960 million) in state aid for German semiconductor producer Infineon demonstrates a budding commitment to bolster its manufacturing capabilities. While investments need to scale up considerably, existing EU fiscal rules may require strategic modifications to ensure larger capital inflow.
Capital Economics estimates that increasing NATO defense spending to 3% of respective GDPs could equate to 1% of the EU’s overall output, necessitating a possible reevaluation of existing financial regulations.
Defense Spending as Economic Catalyst
Historically, periods of military expenditure have prompted broader economic recovery. As European countries prepare to bolster their defense budgets, this could foster collaboration, enhance industrial strategies, and subsequently support sectors such as defense contracting, which only managed to meet 22% of bloc requirements between mid-2022 and mid-2023—a figure the EU aims to elevate to 50% by 2030.
Germany’s Potential Shift in Strategy
The crucial pivot rests on Germany’s willingness to embrace increased fiscal stimulus and reform. Recent statements from center-right leader Friedrich Merz highlight a desire for greater security independence from the U.S., signaling potential shifts in strategy that could benefit the broader EU recovery.
The historical precedence shows Europe’s capability to rebound when faced with adversity, as witnessed in the aftermath of the euro crisis and the pandemic. If the current trajectory continues, investors may find Europe dramatically changing its narrative from laggings to leading the global market.