UBS upgrades financials and capital goods in European sector rotation

UBS upgraded Diversified Financials and Capital Goods and removed Energy and Materials from its highest-conviction European equity list this month, citing improving earnings revisions, attractive valuations and strengthening macro signals across the region.

Strategists said Diversified Financials, Banks, Insurance and Capital Goods all rank favourably in UBS’s REVS framework, while fiscal spending, infrastructure investment and an improving industrial cycle are creating opportunities beyond traditional artificial intelligence beneficiaries.

Stocks that fit the shift include IG Group, ACS, Rockwool, Prysmian and SPIE, according to the note.

UBS said European equities continue to perform largely as expected, supported by a stronger-than-anticipated earnings season and improving macro signals, with the market no longer reliant on a narrow group of AI enablers or banks. Upward earnings revisions are broadening across multiple sectors and industry groups.

Consensus now expects close to 18% EPS growth for Europe this year, contrasting with the previous three years, when aggregate earnings growth was effectively absent as winners and losers offset each other, the note said.

AI remains the most important earnings story, UBS said, with the strongest earnings upgrades continuing to come from AI beneficiaries, where revisions this reporting season exceeded those of the previous two quarters. 

European AI enablers, electrification and selected renewables remain among the highest-ranked themes in UBS’s framework.

Leadership is broadening beyond AI as industrial and financial sectors increasingly participate in the upgrade cycle, the strategists said.

Purchasing managers’ index data are now confirming the earnings story, according to the note, with new orders indicators pushing decisively above 50 in several large sectors, including banks, pharmaceuticals and industrial businesses.

UBS remains positive on pharmaceuticals, where growth has turned after valuations cheapened. However, Retail, Food Retail, UK Consumer and Healthcare Equipment & Services moved onto UBS’s least-preferred list this month, reflecting weakening earnings momentum and poor REVS rankings.

Food, Beverage & Tobacco and Household & Personal Products improved enough to leave the least-favoured category, though UBS said it does not yet see a compelling catalyst for outperformance in those groups.

The Iran conflict and related energy-market disruption have not created the sustained earnings shock many feared, even though European gas storage levels remain uncomfortably low, UBS said. Fiscal policy momentum across defence, infrastructure and industrial investment continues to build, particularly in Germany.

Investor positioning in Europe remains relatively light compared with other major markets, UBS said. Active inflows remain subdued, but passive flows and ETF allocations have begun to improve after a prolonged period of weakness.

UBS said stronger earnings delivery could attract incremental capital into European equities in the second half of the year and drive the Stoxx 600 to its target of 690.

Consensus single-stock target prices continue to rise, approaching 750 for the Stoxx Europe 600 on what UBS believes is probably a nine-month duration.

UBS’s index forecasts show a 2026 price target of 690 for the Stoxx Europe 600, implying 4% upside, and a 2027 target of 760, implying 15% upside.