European stocks heading for rally? Because they can surprise

European stocks posted their best quarterly performance of the year, with investors now expecting a sustained rally on optimism about interest rate cuts and economic growth.
The Stoxx Europe 600 closed 0.2% higher in London ahead of the Easter holidays, taking quarterly gains to around 7%.
Traders are betting that Europe will lead the next leg of the global stock rally and are broadening their strategies as a result, while a pricier US market evokes memories of the dot-com bubble.
Hedge funds are now the most exposed ever to European stocks compared to a global benchmark, according to data from Goldman Sachs Group.
Mutual funds also increased allocations to stocks in the region by the most since June 2020, a recent Bank of America survey showed.
The rally in European stocks this month has broadened beyond major benchmark names such as ASML Holding NV and Novo Nordisk A/S, unlike in the United States where gains remain concentrated in big tech stocks.
Auto, technology and banking stocks are among the best performers in Europe this year.
Enthusiasm for European stocks increases ahead of the new quarter, what to expect? read also Europe at risk of shock for 3 reasons Why stocks in Europe can still run (and outperform Wall Street) Euro area stocks rose by around 4% in March, outpacing US ones.
Investors expect they will continue to rise if a pick-up in economic growth revitalizes corporate profits.
That's because the AI fervor that has overheated the U.S.
market makes the fortunes of the S&P 500 increasingly dependent on a group of relatively expensive technology stocks.
Hedge funds' allocation to Europe relative to the MSCI All-Country World index, meanwhile, reached a 5.8% overweight last week, the highest level on record, according to Goldman Sachs data.
The Stoxx 600 Index has not fallen 2% in 186 days, its best performance since 2017 and the fourth longest since its launch in 1998.
While the chances of a pullback have increased after a strong quarter, seasonality is still at favor of actions.
Additionally, April is typically the strongest month of the year for the Stoxx 600 based on average returns over the past three decades.
“The real catalyst for the second quarter will be for inflation to continue to fall and for central banks to actually cut rates in June, because if that didn't happen, it would be quite bad,” Arnaud Cayla, deputy managing director of Cholet Du Pont Asset Management .
Despite Europe's gains this month, its benchmark Stoxx 600 index still looks cheap.
Its trailing 12-month price-to-earnings ratio of about 14 is only slightly above the long-term average, according to data compiled by Bloomberg.
Even excluding technology stocks with high valuations, the S&P 500 is still in expensive territory.
read also Germany and beyond, who are the "sick" people of Europe (Italy is also there) "The prospect of an outperformance of Europe compared to US shares certainly has solid foundations", he said in an interview in London Paul Brain, deputy director of multi-asset investments at Newton Investment Management.
“The price of American big tech now seems fully discounted and could face obstacles arising from competition and regulation after the recent rally.” Europe's greater weighting in more cyclical sectors could also work in its favor as economies such as Germany and the UK look set to avoid a prolonged recession and global growth is expected to recover.
A possible easing of interest rates could also help.
read also ECB can cut rates even with rising wages, statement “As interest rates fall and we get this soft landing, the opportunity to expand into some more cyclical parts of the market is improving,” said Peter Oppenheimer of Goldman Sachs on Bloomberg TV.
Tech stocks will do well, but the strategist sees “better relative valuation opportunities outside the US.” Europe may therefore surprise the markets in the second quarter.