Europe Best Ideas 2025

Overview:

• Potential changes to American international defense, financial and industrial policies open opportunities for the European Union (EU).
• The European economy appears to be at a turning point, fuelled by rising employment ratio, strong household incomes and healthy economies in southern EU countries.
• We could see the start of a prolonged trade war with the U.S., bringing about new trade deals negotiated with other countries, including China.
• Efforts to boost internal economy and security may see limited results in 2025 but will likely affect growth in 2026 from higher infrastructure and defense spending.

TD Cowen’s Europe Best Ideas is an annual publication showcasing our analysts’ top investment recommendations among Europe-listed and Europe-focused stocks (as well as U.S. listings of European companies). In addition, our Washington Research Group has assembled timely thoughts on Europe-focused policy themes such as tariffs, NATO spending, Ukraine and a possible retreat of the United States from global financial regulatory bodies. Further insight is provided by James Rossiter, our Head of Global Macro Strategy, who weighs in on the tension between positive (relatively good economy, internal investment) and negative (tariffs) drivers of European markets.

Washington Policy Themes

Macro Outlook/Trade

The U.S. imposed 25% steel and aluminum tariffs on the EU with retaliation starting April 1. Expect a wave of tariffs hitting the EU to begin next month with focus on goods deficit, Value-Added Taxes (VAT), Digital Service Taxes and OECD Pillar 2 15% minimum tax.

Geopolitical Security and Defense

NATO defense spending could rise significantly due to concerns about Russian threats and U.S. security policy. We believe EU spending will continue to grow in the next 3-5 years. Purchases by EU and Great Britain may favor domestic "national champions," but we believe there will still be significant opportunities for U.S. and others (e.g. South Korea) due to demand and capacity.

Financials

We expect the United States to back away from global financial regulatory bodies, which puts at risk decades of effort to harmonize capital and policy regimes. This could create opportunity for European banks.

Energy Transition and Sustainability

The Trump administration's push for increased liquified natural gas (LNG) exports to the EU could be complicated by a de-escalation of the war in Ukraine, which would likely result in renewed Russian access to EU energy markets. Paired with uncertainty about the reliability of the U.S. as a trading partner, we are cautious on the volume of new commitments.

Technology, Media and Telecom

While prior European Commission (EC) attempts to regulate U.S. tech platforms have failed, we believe the EC is looking to take a bite out of the U.S. tech.

At A Turning Point?

The European economy picked up momentum over the past year, but the world has since changed. While underlying dynamics remain healthy for now, the region faces significant threats and opportunities. In the near term, trade wars are likely to hit the region hard, but in the medium term, a renewed urgency to boost fiscal spending (particularly on defence) will provide opportunities for growth.

Looking back on 2024, not only did the European economy generally pick up as we expected, but it even exceeded our (admittedly cautious) expectations. That trend has continued at pace into 2025 reflected by the divergence between European and U.S. equity markets. But while there are pockets of strength underlying the European economy that should support it through 2025 and beyond, there are storm clouds gathering on the horizon that could steer the continent off course very quickly.

Theme 1: Relatively Good Fundamentals

The macro backdrop – especially in the euro area – still contains notable pockets of strength.

Households Are Relatively Well Off
Unlike G10 peers like the U.S., Canada and the U.K., the euro area saw its job market rebound strongly after COVID and continue to tighten over time. The unemployment rate remains at 6.2%, a record low. And unlike many of its peers, the employment ratio has continued to rise in the euro area along its pre-COVID trend. This is the sign of a healthy labour market; workers are entering the labour market in droves and are finding work. Wage growth, while cooling slightly, also remains relatively strong in the region.

Put together, lots of workers seeing decent wage gains means that households have felt relatively well off. So, it's a bit of puzzle that consumer spending still remains below its pre-COVID trend in the region. This is largely because households continue to sit on a large stock of savings, and their savings rate remains historically high and still above pre-COVID levels.

On the one hand, this raises questions about why households don’t remain confident enough to spend their earnings (war on Europe's doorstep likely explains some of this), but on the other hand, it means that should households regain that confidence to spend, there is potential for household spending to boost the economy. For firms that directly serve households in both the goods and services sectors, this could provide a cushion going forward.

The South Is Driving Growth in the Region
Unlike a decade ago, growth in Europe is being driven by the southern European economies like Spain, Portugal and Greece. Northern economies like Germany are struggling; the German economy has shrunk the last two years, though prospects are improving. This is setting Europe up for a rare balance of policy stimulus, in which European Central Bank (ECB) policy rates can be set appropriate for the entire region, while Germany’s historically conservative fiscal bias can be simultaneously loosened to address structural issues there. While the underlying dynamics are generally constructive, the continent is at a turning point, and there are both threats and opportunities on the horizon.

Theme 2: The External Environment Poses Near-Term Challenges

Tariffs hit growth and inflation differently in the U.S. versus the rest of the world. We have higher conviction on the impact of tariffs on U.S. inflation (higher) and global growth (lower). The impact on U.S. growth and global inflation is less certain, but in our view, more likely to have a weakly negative impact.

In early April, we expect aggressive tariffs to be launched against the EU as part of the U.S.’s global reciprocal tariff policy. The EU's retaliation will be careful and rules-driven, meaning that an initial April tariff package on U.S. imports into the EU will only be the start of what could become an escalated and prolonged trade war.

The impact of U.S. tariff policy affects not only direct trade between the U.S. and its partners, but also spills over into other trade relationships. For example, as the U.S. isolates itself on a global scale, we expect Europe to deepen its relationship with China. This may help offset some of the direct impacts of U.S. tariffs, though we also caution that the uneven nature of tariffs across countries (e.g., China at 40%) means that there will be distortions outside the U.S. For example, we expect Chinese goods that have become priced-out of the U.S. market to show up elsewhere, putting mild downward pressure on inflation in Europe and elsewhere.

Theme 3: The Internal Environment Should Be Good for Growth in the Medium Term

While Europe is subject to the whims of global geopolitics, it finds itself focusing more on ways it can boost its internal economy to both stimulate growth and arm itself. Recently, two large spending plans have been unveiled, both of which are very much still in the development phase as leaders work their way through the details and approval processes.

The two programs are:

1. Rearm Europe
EU leaders have proposed a package of measures aimed to re-arm Europe, which is being presented as an €800 billion package.

2. German Fiscal Reforms
Incoming Chancellor Merz is pushing through a package of spending and reforms under the old parliamentary majority.

To us, the stimulus measures are not likely to affect the EU economy much in 2025, but we expect to see some lift in growth in 2026 from higher defence and infrastructure spending. The gap to fill is immense; some estimates suggest the EU needs to spend another €250 billion per year on defence (or around 1.5% of GDP), much of which will come from NATO's biggest spenders if politics allow.

Europe at a Turning Point

Absent major shocks, growth across Europe should continue to pick up mildly from here – and especially into 2026 – while inflation continues to soften toward target (more slowly in the U.K.). But in the short-term, shocks are the order of the day, and a trade war with the U.S. is likely to weigh on growth through the middle of 2025. For monetary policy makers, uncertainty is the name of the game, and the ECB is plotting a very noncommittal path forward, while the Bank of England (BoE) eases gradually. For the ECB, with the deposit rate at 2.50%, we think policy is roughly neutral. Tariffs in April are likely to open the door to further cuts that month and in June, taking the deposit rate to 2.00%. Longer-term pressures are likely to see the ECB eventually raise rates back to 2.50%. For the BoE, with less retaliation to worry about, focus is instead domestic with sticky wages and services inflation keeping the MPC on a slow easing path.

Europe is at a turning point. While threats dot the near-term outlook, opportunities present themselves beyond, especially as the region increasingly sees the benefit of working together and taking bold decisions. How the region navigates geopolitics, trade uncertainty and war will shape the continent for years to come.