European Stocks Need Strong Earnings To Power A Year-End Rally

Why earnings matter now

If oil keeps climbing, investors worry it could stoke inflation and keep central banks in a hawkish mood. Even so, profit expectations are firming, with projections for the biggest yearly increase since 2022 on the view that solid growth will support consumer demand. Citigroup's gauge of estimate revisions shows more upgrades than downgrades since early May, the longest stretch in more than four years. That streak just ended in the US, with forecasts trimmed after a 23-week run.

With the Stoxx Europe 600 already up 8.1% this year, plenty of optimism is in the price, so disappointment risk into earnings season is real. Some investors are bracing for a pullback if analysts start reining in numbers.

What surveys and data show

A Bloomberg survey this month captured the most upbeat September stance on European equities since 2018. The macro backdrop helps: euro area private-sector activity picked up to its quickest speed in over three years, and the region has held up despite disruptions tied to the war in Iran. HSBC strategists say European companies are now generating more than half of their sales domestically, the highest share since 2017, which supports earnings tied to the home market. The currency picture matters too, with the euro down roughly 3% against the dollar this year.

On valuations, there is a modest cushion. Analysts have lifted profit estimates for Stoxx 600 companies by 6.5% since January, according to Bloomberg Intelligence, while the index's forward P/E is down roughly 5% from Aug. 7. Seasonality leans positive as well, with the fourth quarter historically the strongest for the Stoxx 600.

Currency, rates, and refinancing pressure

HSBC's team, including Duncan Toms, estimates that if European currencies weaken another 5% against the dollar, that would boost 2026 earnings growth by roughly 3.1 percentage points. The cost side is getting tougher, though. Bloomberg Intelligence's Laurent Douillet notes that yields across maturities have climbed since late June, squeezing interest coverage for European firms down to 8.5 times. He finds a similar deterioration for S&P 500 companies and the MSCI developed markets outside the US, though those groups still enjoy larger earnings buffers.

Policy and pricing reflect that pressure. The European Central Bank raised rates earlier this month, while the swaps market projects three additional hikes by April 2027. Technically, the Stoxx 600 has trended lower since a mid August peak and remains in a downward channel even after two straight gains, widening the gap with the median year end strategist target of 670.

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The investor read

Offering a cautionary note, Alpesh Patel - the managing partner at RootBridge Capital - remarked, "Watch for pre-earnings selloffs - that's when the market gets truthful and sells the bravado." He also sees room for upside surprises that could restart the rally. Not everyone expects Europe to keep up globally. "Even with better-than-expected earnings in the latest season, it was still no match for the rest of the global acceleration, so we still see underperformance ahead," said Timothy Graf, who leads EMEA macro strategy for State Street Global Markets.

Looking ahead, Stoxx 600 profits are projected to rise 15% in 2026, the biggest jump in four years, though still behind the US and other peers. For Mandarine Gestion's Florian Allain, the macro setup supports a 2026 rebound after three years of weak growth, but he is more cautious on 2027. Analysts expect a 10% increase that year, and as Allain put it, "My concern is much more about 2027 and what happens if oil prices and yields continue to rise even gradually."

Bottom line for your wallet: the bull case into year end rides on companies beating already high bars. More reasonable valuations and a softer euro help, but higher refinancing costs, a stubborn chart, and the risk of pre-earnings jitters mean the follow through depends on delivered results, not hope.

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