3rd Quarter 2025 Market Update: Views on Germany

The third quarter showcased a market environment that many might label as Goldilocks, not too hot, not too cold. Inflation moderated, growth remained steady, and the Fed began easing rates. The overall story of Q3 seemed to be a path of least resistance continuing to point to the upside. Still-decent economic data in the US, strong earnings growth, and a resilient consumer combined with the onset of a likely Fed easing cycle and increased bullish sentiment to push major indices to repeated record highs. Continuing AI optimism, an uptick in mergers and acquisitions (M&A), a notable retail-investor impulse, and thoughts of supportive positioning also appeared to help underpin the market at quarter's end. But more bearish voices have not been absent. The S&P 500, Nasdaq, and Dow Jones all reached record highs during this period. As we look ahead into Q4, questions remain about the ongoing AI hype and reemergence of the trade war. Still, rising earnings, coupled with rate cuts and the absence of a recession, should give markets a further push into year end.

Despite various headwinds--from the trade war to bubble talk around AI--the S&P 500 surged 7.8%, led by technology and communication services. Gains were driven by AI optimism and strong earnings. International equities also posted solid gains, with the MSCI ACWI ex-US rising 6.7% in USD terms, though U.S. equities outpaced global peers. Even so, European equities approach all-time highs despite currency headwinds. The exception was the Germany’s DAX Index, which was essentially flat in Q3 mainly because of combination of German economic weaknesses, geopolitical tensions and trade uncertainty. German small caps fared even worse with the SDAX slipping 3.6% over the quarter. In Asia, stocks posted strong gains in Q3, propelled by China technology stocks and AI-related names in South Korea and Taiwan, shrugging off deteriorating economic data for now. On the positive side, improved sentiment towards China's economy won out over actual data. Japan's Nikkei 225 and Topix indexes reached record highs on numerous days, with the Nikkei eclipsing its 1989 peak.

Over in Europe the STOXX Europe 600 neared March 2025 all-time highs in Q3, buoyed by positive US sentiment, a July US-EU trade deal – which the markets viewed as better than feared - and the Fed's first rate cut since December. However, 2025 performance remains sharply divided: the Euro's ~14% gain against the Dollar created headwinds for internationally exposed companies while benefiting domestic-focused peers. Despite structural challenges, street optimism grew around compelling valuations. The STOXX Europe 600 traded at 15.6 times (x) expected earnings versus S&P 500's 25.3x, with higher dividend yields. Cyclical sectors surged on commodities strength, defense/geopolitical support, and banking momentum, while defensives faced pressure from policy shifts, and higher rates. Basic Resources surged on record gold prices, rising copper, and trade-related support for steel alongside M&A developments. Banks outperformed on strong earnings, M&A speculation, and relief from regulatory headwinds. Energy benefited from crude's largest quarterly gain in years. Industrial Goods & Services -- particularly Aerospace & Defense -- advanced on geopolitical developments and rising defense budgets, supported by merger and consolidation activity. On the downside, Media fell on revenue weakness and disruption risks as well as Trump's crackdown on US broadcasters, while Chemicals and Food & Beverage were weighed down by weak demand, structural headwinds, and regulatory /tariff related. Rate-sensitive sectors like Real Estate, Utilities, and Telecom underperformed amid rising long-dated bond yields.

In Germany, growth continues to disappoint, with global investors are becoming frustrated that proposed fiscal spending packages have yet to translate into corporate results or orderbooks. Following the JulyUS–EU trade deal, corporations are still struggling to precisely assess the financial impact on their businesses and are consequently hesitating to invest.

Region-wise, we see value in Europe due to an approximately 35% price-to-earnings (P/E)-discount to the U.S., potential earnings reacceleration in 2026, and portfolio diversification. (We believe Europe could outperform if US markets weaken). Within Europe we like small- and mid-caps. In Germany, we see potential opportunities in equities supported by greater political stability compared to France and the UK, fiscal defense and infrastructure spending that we believe could benefit companies in 2026, signs of bottoming economic momentum in Q3 2025, and favorable seasonality.

In emerging markets (EM), we like Asian semi-conductors and China -- particularly consumer and technology sectors. While Japan has elected its first female prime minister, a conservative and pro-business leader, it remains clear how her policies will shape economic direction.