European equity markets are set up for a strong start to 2026, with an improving macroeconomic picture, clarity on trade deals and the prospect of further interest rate cuts.
Still, it’s important for investors not to get complacent. European markets now trade at just a 1% discount to Morningstar’s fair value estimates, a smaller discount than the market has traded at for much of the past two years.
Current market valuations across Europe vary materially and most country markets trade at a discount to our fair value estimates.
Of the nine sectors covered by Morningstar, more than half are still offering attractive upside potential. Communications has swung from being one of the most expensive to being the cheapest sector in Europe. Financial services is the most expensive sector in the region, following its 2025 rally.
Key Stock Picks by SectorCommunications Services
In telecommunications, Italy has now joined the group of countries where management teams are aiming for consolidation. France, Spain, and even Germany could be subject to consolidation moves in the coming months, but as always, the European Commission’s stance on these deals will be key to determining how value-accretive they are.
Deutsche Telekom DTEBouygues ENTechnology
While IT-services companies are generally trading at the steepest discounts to our fair value estimates, we favor software companies in this market, given their better visibility, high recurring revenue, and strong moats with attractive valuations.
IT spending in 2026 appears poised to rise more in the US than Europe and IT service names highly exposed to Europe will likely still struggle.
Consumer Cyclical
For luxury stocks, early signs of demand improvement in the US and possible stabilization in Chinese demand prompted a broad-based sector rally. We expect demand to return to mid-single digit growth rates, possibly this year, but we think this view is now shared by investors, with luxury now fairly valued.
Most European automakers’ share prices have recovered, inching toward our fair value estimates. We now have greater clarity on the impact of US tariffs, and major cost-realignment restructuring and EV impairment announcements having been made. We’ve been conservative with cost savings in our forecasts.
Persimmon PSNStellantis STLAMKering KERConsumer Defensive
Opportunities exist across many categories, especially beverages. Investor confidence in alcohol companies has been low, with concern over whether the industry’s headwinds are cyclical or structural. We are confident in long-term drivers, including premiumization and emerging-market penetration. We expect the alcoholic beverage industry recovery to be weighted toward the second half of 2026.
Diageo DGENestle NESNThe Magnum Ice Cream Company MICCEnergy
Potential supply disruptions now appear largely priced in, and robust supply is set to collide with slowing seasonal demand, raising the risk of a material supply glut. Oil prices are expected to trend lower into 2026.
As a response, global capital expenditures should decline by a low-single-digit percentage, weighing on oilfield services stocks. That said, offshore spending is expected to prove more resilient than shale investment, which underpins our preference for SLB.
Over the longer term, we expect the market to absorb excess crude supply, with structural demand drivers supporting our $65/bbl Brent price assumption.
SLB SLBTotal Energies TTEFinancial Services
With tariff wars and increased fiscal spending likely to increase inflationary pressure across Europe, we expect interest rate cuts to slow. European banks will benefit from higher than previously assumed rates as well as potentially stronger economic growth.
European banks continue to post strong results as their loan books roll onto higher swap rates and credit costs remain benign. We expect growth to moderate as the tailwind from higher interest rates is a thing of the past
We think Adyen is attractive at current levels. Tariff impacts have marginally affected top-line growth in the near term, but its long-term outlook remains solid.
Adyen ADYENBNP Paribas BNPPrudential PRUHealthcare
We still see high uncertainty around many stocks, particularly in biopharma and healthcare plans, although clarity on drug pricing headwinds is improving and plans look poised to see a better match between rates and utilization beyond 2025. Within the obesity market, Novo Nordisk trades at a discount to its fair value estimate. We still see strong competitive advantages despite Eli Lilly’s growing market share.
Novo Nordisk NOVO BGenmab GMABIndustrials
We see attractive opportunities in the business-services sector, especially in testing, inspection, and certification firms, which benefit from global tailwinds in sustainability testing, product safety, and supply chain management.
Rentokil Initial RTOMelrose Industries MRORheinmetall RHMUtilities
Eight of the 19 companies we cover are undervalued. A tepid recovery in power demand over the coming years could weigh on overvalued names, particularly Spanish utilities that rallied on expectations of a much stronger rebound.
SSE SSEVeolia Environnement VIENational Grid NG.
This article was taken from the Europe Equity Market Outlook: 2026 Q1.
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