European fundamentals improved, but US earnings continue to deliver; German small and mid-caps are the clearest European expression
AI summary card
European fundamentals improved, but US earnings continue to deliver; German small and mid-caps are the clearest European expression
Deutsche Bank keeps an overweight on equities and a neutral Europe versus US positioning, expecting Europe to outperform around earnings season while the US is likely to lead during earnings season. It remains constructive on German reform beneficiaries, European small and mid-caps, Consumer Staples, Real Estate, Health Care, Banks, and Software.
- Europe has relative advantages in positioning, energy prices, rate outlook and improving macro surprises, but US Q2 earnings are expected to be close to 30% year-on-year growth, far above Europe's roughly 14%, limiting Europe's ability to continuously outperform through Q3.
- The report remains constructive on Germany, especially German small and mid-caps supported by infrastructure spending and reform momentum; the MDAX year-end target is 36,000, implying around 11% upside.
- Sector allocation is rotated toward sectors with rebound potential, valuation appeal and earnings improvement: Consumer Staples and Real Estate were upgraded to overweight, while Basic Resources was downgraded to neutral after a strong run.
- Major European indices still have moderate upside: EURO STOXX 50 target 6,560, STOXX 600 target 670, DAX target 26,900; expected returns for major European indices are around 1%-5%.
- On a cross-asset basis, the report provides Bund, UST, and JGB rate forecasts, as well as EUR/USD, oil, copper and gold paths for FX and commodities as a macro backdrop for equity positioning.
Report interpretation
Overview
This report is Deutsche Bank's 2026 Q3 outlook for European equities and cross-asset positioning. The core view is that Europe has favorable conditions in Q3, including lower energy prices, a more supportive rate outlook, marginally improving macro data, low positioning, and progress on German reforms. However, US corporate earnings remain exceptionally strong, making it difficult for Europe to consistently outperform the US throughout the quarter. Consequently, the report keeps a neutral view on Europe relative to the US, while expecting tactical overweight opportunities in Europe before and after earnings season, with the US more likely to dominate during the reporting window.
Core views
The report keeps an equity overweight, arguing earnings growth is stable and valuations remain not overly expensive. By year-end 2026, major European indices still have about 1%-5% upside, while the MDAX has about 11% upside thanks to German reform and the catch-up thesis in small and mid-caps. Germany is the strongest structural opportunity in regional allocation, with reform measures, fiscal spending, and infrastructure investment supporting German small and mid-caps. At the sector level, it favors sectors with rebound room, rate-decline beneficiaries, attractive valuations, and earnings improvement, upgrading Consumer Staples and Real Estate, remaining constructive on Health Care, Banks, Software, Autos, and Travel & Leisure, while downgrading Basic Resources to neutral.
Analysis framework
The report uses a multi-dimensional framework of regional relative performance, earnings growth, valuation, positioning/capital flows, rate and energy-price sensitivity, macro surprise index, sector earnings revisions, and policy-reform catalysts. At the regional level, it compares Europe and the US across earnings, flows, energy prices, and the rate environment. At the sector level, it screens for rebound potential, valuation discount, earnings acceleration, and sensitivity to lower rates/inflation. At the cross-asset level, it uses rate, credit, FX, and commodity forecasts as macro constraints for equity views.
Methodology notes
Combines earnings seasonality, earnings growth, flows, energy prices, rate expectations, and macro surprises to judge relative regional performance.
The report believes Europe has relatively better conditions before and after earnings season, but US earnings are stronger during the reporting window, so it keeps an overall neutral regional stance rather than one-sidedly overweighting Europe.
Prioritizes sectors with unresolved post-correction selloff, attractive valuation, improving earnings growth, and benefits from declining rates and inflation.
This framework supports the upgrade to Consumer Staples and Real Estate and explains why Basic Resources was moved to neutral after a sharp rise.
Assesses the impact of macro shocks on sector earnings and valuations by evaluating sector sensitivity to Bund yields, energy prices, and dollar moves.
Consumer Staples, Real Estate, and Health Care are considered beneficiaries of lower rates, falling oil prices, or a stronger dollar.
Asset mapping & comparison
Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).
- European equitiesCore allocation asset
- Strengths
- Lower energy prices, a more supportive rate outlook, improving macro data, valuations not excessively expensive, and upgraded earnings forecasts.
- Weaknesses
- Europe's earnings growth is weaker than that of the US, and part of the growth depends on the energy sector.
- Comparison
- Europe has positioning and macro-margin advantages versus the US, but US earnings are clearly stronger during earnings season.
- Risks
- US earnings continue to beat expectations, German reforms are delayed, geopolitical risks re-emerge, and energy prices rise again.
- US stocksRelative benchmark and tactical allocation target during earnings season
- Strengths
- Exceptionally strong earnings growth, Q2 expected near 30% YoY, with software and technology earnings revisions still powerful.
- Weaknesses
- Crowded positioning, relatively high valuations, higher risk of rate-related pressure.
- Comparison
- The report expects the US to be more likely to outperform Europe during earnings season, while Europe may be relatively stronger before and after.
- Risks
- Slowing earnings momentum, elevated rates suppressing valuation, and reversal of crowded software/semiconductor positioning.
- German equities and MDAXMost clearly constructive view within Europe
- Strengths
- Accelerating reform momentum, infrastructure spending beneficiaries, low positioning, and substantial catch-up potential in small and mid-caps.
- Weaknesses
- Higher cyclicality, previously dragged by Iran war and growth concerns.
- Comparison
- Relative to Germany large-cap peers and other European indices, the MDAX has the highest upside potential.
- Risks
- Delay in reform execution, slow transmission of fiscal stimulus, and global manufacturing recovery below expectations.
- Consumer StaplesUpgraded defensive addition
- Strengths
- Valuation relatively cheap versus history, benefits from lower oil, rates, and inflation, improving consumer confidence, and a stronger dollar being supportive.
- Weaknesses
- Sector earnings improvement still needs confirmation, and US peer discount convergence may take time.
- Comparison
- There remains a large discount versus US Staples, which the report views as unjustified.
- Risks
- Consumer recovery weaker than expected, dollar weakening, and rising input costs again.
- Real EstateUpgraded overweight rate-sensitive theme
- Strengths
- Low valuation, low positioning, improving earnings outlook, NAV improvement not fully reflected, and a more supportive German regulatory environment.
- Weaknesses
- Still highly sensitive to rates and macro expectations.
- Comparison
- 12% discount to the 10-year average and 60% discount of German residential to NTA.
- Risks
- Rates rising again, slow recovery in real estate transaction volumes, and changes in regulatory policy.
- Basic ResourcesDowngraded from overweight to neutral
- Strengths
- Previously supported by supply-demand, copper demand, potential tariffs, and M&A; earnings growth may still remain relatively strong.
- Weaknesses
- Already up 46% since April 2024, valuation is no longer cheap, and current copper price embeds limited additional upside.
- Comparison
- Compared with other catch-up sectors, its risk-reward trade-off has deteriorated.
- Risks
- Stronger USD, weakening sentiment around AI copper demand, unfavorable outcome on US copper tariffs, and summer seasonal weakness.
- BanksRemain constructive but reduce optimism
- Strengths
- Long-term valuation upside remains, NII is still high, loan growth has improved, and Q4 earnings are expected to reaccelerate.
- Weaknesses
- Valuation has been substantially repaired, and earnings momentum and upside surprise frequency have slowed.
- Comparison
- Since being upgraded to overweight in March 2025, performance has outpaced STOXX 600 by about 40%, reducing marginal attractiveness.
- Risks
- Yield curve and rates no longer providing tailwinds, credit quality deterioration, and weakening earnings surprises.
- SoftwareContinuing favored growth/defensive rotation theme
- Strengths
- Valuation at historic lows, AI concerns may be excessive, investors are rotating from crowded semiconductors into software, and US software FY26 earnings forecasts have been upgraded.
- Weaknesses
- Sentiment has been weak over the past year, and the market still fears AI disrupting software business models.
- Comparison
- US software carries only a 6% premium to S&P 500, below the 10-year average premium of 36%.
- Risks
- AI displacement concerns intensify, semiconductors continue to crowd out flows, and earnings revision reversals.
- Rates/CreditMacro constraint on valuation and sector rotation
- Strengths
- Falling European inflation lowers the probability of further rate hikes, helping rate-sensitive sectors.
- Weaknesses
- US rates may remain higher, and credit spreads are expected to widen moderately.
- Comparison
- The report expects US credit to outperform euro credit.
- Risks
- Inflation rebound, renewed tightening by central banks, and credit spreads widening more than expected.
- FX/CommoditiesSector earnings and macro scenario variable
- Strengths
- A stronger dollar is supportive for some European Staples and Health Care names; lower oil prices reduce cost pressure in Europe.
- Weaknesses
- Commodity price volatility may again push up inflation and costs.
- Comparison
- EUR/USD is expected to rise from 1.15 to 1.20 in Q4-26; Brent and Copper paths affect energy and resource sectors.
- Risks
- Oil rising on geopolitical conflict, dollar reversal, copper tariffs, and inventory shocks.
Key data
- Expected upside of major European indicesabout 1%-5%The report expects major European indices to still have moderate upside by year-end 2026.
- Expected upside of MDAX11%Current 32,545, DB year-end target 36,000, the largest upside potential among major European indices in the table.
- STOXX 600 target670Current 648, dividend yield 3.1%, and 12-month forward P/E around 15.2x.
- DAX 40 target26,900Current 25,581, expected index return 5%.
- EURO STOXX 50 target6,560Current 6,360, expected index return 3%.
- US vs Europe Q2 earnings growth comparisonUS close to 30% YoY, Europe around 14% YoYThis is the key constraint behind maintaining a neutral relative view of Europe versus the US.
- Europe FY26 earnings forecastupgraded to 12%Previously 10%; this mainly reflects strong energy earnings and resilience in non-energy earnings.
- Basic Resources gainup 46% since April 2024The report therefore turned it from overweight to neutral, arguing much of the valuation and metal-price support has already been priced in.
- Banks relative performanceup about 40% versus STOXX 600 since being upgraded from neutral to overweight in March 2025The report remains constructive on banks but has reduced optimism.
- Real Estate valuation12% discount to 10-year average; German residential discount of 60% to NTASupports the upgrade of Real Estate to overweight.
- Consumer Staples valuation10% premium to STOXX 600, below the 29% long-term average premium since 2006Relative to US Staples there is still a 31% discount, which the report deems unjustified.
- Bund 10-year forecast3.10% for Q3-26, 3.20% for Q4-26Rate forecasts are used to explain rate-sensitive sectors and regional allocation.
- UST 10-year forecast4.60% for Q3-26, 4.80% for Q4-26US rates remain elevated, affecting US versus Europe relative positioning and valuations.
- EUR/USD forecastCurrent 1.15, Q4-26 1.20, Q4-27 1.25The FX path affects export performance, USD income, and sector earnings sensitivity.
- Brent Oil forecastCurrent $72/bbl, Q3-26 99, Q4-26 86Oil-price path has important implications for European cost pressure, inflation, and sector performance.
- Copper forecastCurrent $13,288/ton, Q4-26 13,600The report believes current copper levels offer limited additional upside support for Basic Resources.
Impact & implications
From an investment standpoint, the report suggests that under an overall overweight equities framework, European positioning should focus on Germany reforms, fiscal stimulus, and small/mid-cap catch-up rather than a simple bet that Europe will outperform the US for the full year. Regionally, tactical rotation around earnings season is more appropriate: tilt Europe before and after earnings season and tilt the US during the earnings window. At the sector level, allocation rotates from Basic Resources, which has already risen sharply, into sectors with lower valuations, improving earnings, and benefiting from better rate/energy conditions such as Consumer Staples and Real Estate. Banks and Software still offer opportunities, but investors should note that after valuation normalization, banks' marginal valuation appeal has declined, while Software still faces rotation pressure from continuing AI and chip crowding narratives.
Risks
- US earnings remain significantly stronger than Europe, making it harder for Europe to deliver relative outperformance.
- German reforms and German infrastructure spending in Europe are implemented slower than expected, weakening the German small/mid-cap thesis.
- Iran war or other geopolitical risks re-intensify, pushing up energy prices and inflation expectations.
- Rates rise again, compressing valuations in rate-sensitive sectors such as Real Estate, Staples, and Autos.
- Basic Resources is vulnerable to stronger USD, lower copper prices, uncertainty around US copper tariffs, and seasonal weakness.
- After valuation normalization in banks, slowing earnings momentum and reduced upside surprise frequency may lead to stalled upgrade demand.
- If the AI narrative continues to pressure software business model expectations, the Software rotation could fail.
- If credit spreads widen more than expected, risk-asset performance could be weakened.
What to watch
- The earnings growth gap between the US and Europe during Q2 earnings season, especially whether US growth near 30% YoY and Europe around 14% YoY is delivered.
- Whether European ETF flows rotate from net outflows in Q2 to net inflows in Q3.
- Actual implementation progress of German reforms, tax policy, pensions, labor market, and infrastructure spending.
- Whether German and European macro data such as Ifo and ZEW continue to improve.
- Moves in energy prices, inflation expectations, and ECB/Fed rate expectations.
- Whether earnings revisions for Consumer Staples and Real Estate continue to improve.
- Co-movement of Basic Resources with copper, USD, and US copper tariff policy.
- Banks' NII, loan growth, ROE, and earnings surprise rates.
- Whether investors continue rotating from crowded semiconductor/hardware flows into Software.
- Whether EUR/USD, Brent Oil, Copper, and Bund/UST yields continue along the report's forecast path.