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In focus: Europe’s rearmament and prospects for regional defense companies
Defense spending is set to rise further across Europe as the region continues to grapple with simmering geopolitical tensions, providing a favorable outlook for European aerospace and defense industries.
Templeton Global Equity Group (TGEG) conducted preliminary research which indicates improving sector sales and capital returns over the next five years. While we are confident in the outlook, potentially elevated valuations necessitate a strong focus on bottom-up stock selection and price discipline.
Investment outlook
In his “Liberation Day” announcement on April 2, US President Donald Trump unveiled a 10% universal baseline tariff on imports from all countries, with many major trading partners also slapped with higher reciprocal duties. Chinese exports to the United States will face a total levy of 54%; a subsequent US announcement may push this rate up to 104%. Others on the list include Taiwan at 32%, India at 26%, South Korea at 25%, Japan at 24%, the European Union at 20% and the United Kingdom at 10%. As the risks of a global trade war and economic slowdown continue to build up, TGEG will navigate the potentially volatile landscape ahead with attention to bottom-up stock selection and valuation discipline.
In North America, the sweeping Trump tariffs have pushed the average effective levy on US imports to roughly 20%‒25%.1 Initial market reactions were negative, with main US benchmarks suffering the largest pullback since the COVID pandemic. There remains a high degree of uncertainty in the US economic and market outlook. We cannot rule out a recession or even stagflation, complicating the policy-easing path for the US Federal Reserve. Conversely, it is also possible that Trump would change tack and lower the tariffs following further negotiations or lobbying actions.
In Asia, equities will not be immune to volatility as US tariff and recession fears intensify. Regional markets were in a sea of red on the day following Trump’s announcement. While we reiterate our view that policy outcomes remain unpredictable, we are cognizant of the downside risks facing APAC markets. For instance, a 10% universal tariff could impact regional earnings by 3% and stock valuations by 4%, based on an investment bank analysis.2 Given these uncertainties, we may see APAC equities bucking a trend of strong seasonal returns in April
In Europe, US tariffs will similarly grip, but other macroeconomic forces are in motion and may prove supportive of the regional outlook. In addition to the aerospace and defense sector dynamics discussed above, fiscal policy reforms may accelerate, paving the way for stronger economic growth across the region.
Market review: March 2025
Global equities collectively declined in March 2025. As measured by MSCI indexes in US-dollar terms, developed market equities underperformed emerging market and frontier market equities. In terms of investment style, global value stocks fared significantly better than global growth stocks.
US and European stocks retreated amid investor concerns about the US economy, Trump’s trade policy and a broadening trade war. Despite these headwinds, the Chinese market put up a more solid performance, riding on optimism about technology stocks and stimulus measures. On the economic front, global manufacturing activity expanded in March for the third consecutive month, and flash reports for March showed that global services activity continued to grow in several regions.
EndNotes
- Source: Nomura. April 3, 2025.
- Source: “Asia-Pacific Weekly Kickstart.” Goldman Sachs. March 29, 2025.
WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal.
Equity securities are subject to price fluctuation and possible loss of principal. Small- and mid-cap stocks involve greater risks and volatility than large-cap stocks. There can be no assurance that multi-factor stock selection process will enhance performance. Exposure to such investment factors may detract from performance in some market environments, perhaps for extended periods.
Active management does not ensure gains or protect against market declines.
International investments are subject to special risks, including currency fluctuations and social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets. Investments in companies in a specific country or region may experience greater volatility than those that are more broadly diversified geographically. The government’s participation in the economy is still high and, therefore, investments in China will be subject to larger regulatory risk levels compared to many other countries. There are special risks associated with investments in China, Hong Kong and Taiwan, including less liquidity, expropriation, confiscatory taxation, international trade tensions, nationalization, and exchange control regulations and rapid inflation, all of which can negatively impact the fund. Investments in Taiwan could be adversely affected by its political and economic relationship with China.
Investments in fast-growing industries like the technology sector (which historically has been volatile) could result in increased price fluctuation, especially over the short term, due to the rapid pace of product change and development and changes in government regulation of companies emphasizing scientific or technological advancement or regulatory approval for new drugs and medical instruments.
Diversification does not guarantee a profit or protect against a loss.
Any companies and/or case studies referenced herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio.