What’s the Outlook for European Stock Markets in 2026?

Key TakeawaysEuropean investors have so far shrugged off potentially market-moving geopolitical events such as US military action in Venezuela.With markets close to being fairly valued, there’s less protection against future selloffs.Small-cap stocks and consumer defensive and healthcare stocks offer opportunities.

It’s been a wild start to the new year already. But despite dramatic news on Venezuela, Greenland, the Federal Reserve chair, and tariffs, stock markets have kept on climbing, reaching record highs.

The lack of response from equity markets could signal danger ahead. Either investors are cleverly ignoring the “noise” or they have reached a point of irrational exuberance where they ignore anything that could be deemed bad news.

Are European Stocks Still Worth Buying at Current Valuations?

The price/fair value estimate of the European market is one chart that goes someway to answering this. We’re as close to 1, which means the market is fairly valued, as we’ve been in almost a year.

But investors shouldn’t necessarily be putting more money into the market now.

There is a world of difference between the market being fairly valued and overvalued. European equities aren’t cheap, but neither are they expensive. And global equities have been fairly valued at around this time for the last two years. Not investing would have missed out on some very fat returns for both years.

We don’t believe markets are overvalued, but at the same time investors should be aware that the margin of safety they had previously is gone. Buying last April in the tariff selloff would have given access to the market at an almost 20% discount, a margin that provides a lot of protection against volatility. Despite all the uncertainty that came during 2025, including the various tech wobbles, investors who bought in April were still firmly in the black for the rest of the year.

The danger of investing at today’s valuations is not the risk of permanent capital loss, but more the risk of falling into the red quite easily if markets take a turn. This happened early last year as markets quickly went from being fairly valued to trading at a near 20% discount, almost solely on the threat of tariffs. It’s unlikely there will be a repeat of this same scenario, but other left field risks could very easily knock equity markets off their perch.

European Small-Cap Stocks Still Offer a Valuation Buffer

Small-cap and value stocks have been areas of opportunity for some time, but the market is catching up. Value stocks are now trading at broadly the same level as the main market. Small-cap stocks still offer better value, trading at an almost 30% discount to their fair value estimate. This valuation has been steadily rising, however, with the discount closing materially since last quarter.

This makes perfect sense of course; small-cap stocks are highly exposed to macro-economic conditions. They don’t have the ability to tap as easily into deep equity markets like large-cap stocks, nor can they so easily issue low-coupon bonds even at times of higher interest rates, like we saw over the last few years.

That small-cap stock valuations are rising suggests investors are becoming more bullish generally about the economy, which ties into the positive momentum seen so far this year. If this continues, then expect the gap between small-cap stock valuations, and our fair value estimate to close further.

Consumer Defensive and Healthcare Stocks Look Attractive

With momentum strong, it might seem logical to stay invested in the sectors that performed strongly last year. The problem with this thinking is that the outsize performance in sectors like financial services and utilities is not replicable for a second-year running. Valuations in both sectors have climbed materially, with utilities fairly valued or bordering on being overvalued, and financial services moving toward being deeply overvalued. That these sectors could deliver the 35%-50% returns from last year again this year would either mean unthinkably high earnings growth, or valuations getting massively out of control.

With two of the cheapest sectors, at least, there is positive momentum and near-term catalysts to move valuations higher.

For example, consumer defensive firms, which are often moaty businesses with globally recognized brands like Heineken HEIA, Nestlé NESN and Magnum Ice Cream Company MICC. Seeing these stocks trading at material discounts to our estimates is unusual. Success in this sector lies in investment in advertising and marketing, winning back customers and encouraging volume growth. For firms that have already done this, positive shoots are already visible.

Healthcare was one of the worst performing sectors last year, but conditions are easing. The threat of extra tariffs has been lifted and excitement around areas like GLP-1 drugs is returning. As positive sentiment returns to the sector, valuation improvement should follow.