European stocks surged 10% in Q2, marking their best quarterly performance since 2020, driven by AI enthusiasm and falling oil prices.

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European stock markets ended the second quarter on a strong note, with continued enthusiasm for AI and easing tensions in the Middle East driving this round of gains. The pan-European stock index recorded the largest quarterly gain in more than five years, and the technology sector saw the best quarterly performance since 2001.

The Europe Stoxx 600 index closed up 0.88% on Tuesday at 641.73 points, breaking the record high set last Thursday. It rose 10.05% in the second quarter, marking the strongest quarterly performance since October 2020. Among major European economies, Spain’s Ibex 35 index and Italy’s FTSE MIB index also posted their largest single-quarter gains in over five years. Boosted by renewed enthusiasm for AI trading, the technology sector closed up 2.5% on Tuesday, leading the gains and propelling the main index past the key 640-point resistance level.

After the US-Iran ceasefire agreement was reached, oil prices fell back to pre-conflict levels, easing inflationary pressures and prompting a rotation of funds from defensive sectors to cyclical sectors. Meanwhile, market attention is gradually shifting to the upcoming second-quarter earnings season. According to Bloomberg, Deutsche Bank strategists estimate that European corporate profits will grow by 14%, two percentage points higher than the consensus.

Technology Sector Up Over 30% in Q2; AI Demand Supports Valuation Logic

Among the Stoxx 600 sector indices, the technology sector gained over 30% in the second quarter, marking the largest quarterly gain since October 2001, and emerged as the core driver of this round of gains. On Tuesday alone, the sector closed up more than 2.5%, outperforming all other sectors.

In terms of individual stocks, ASML, the highest-valued chip stock listed in the Netherlands, closed up about 6.8% on Tuesday; Germany’s Infineon rose nearly 4.4%; and France’s STMicroelectronics rose 1.4%. After reiterating robust demand trends in its quarterly earnings conference call, AI infrastructure equipment provider Siemens Energy jumped 5.6%.

Software stocks declined against the market trend: Germany’s SAP fell about 1.9%, and France’s Capgemini fell 2.9%.

Rob Lancastle, portfolio manager at J O Hambro Capital Management, pointed out that the appeal of the European market lies in its relatively reasonable valuations: "You don’t need to pay an excessive premium for economic growth... Compared to US tech stocks or Asian semiconductor stocks, European companies create quite a few value investment opportunities. Elsewhere in the world, you often pay more and run greater downside risk to earnings."

In the first half of this year, the technology sector rose more than 25%, continuing to lead among Stoxx 600 sectors and is expected to outperform Wall Street technology over the same period.

Oil Price Decline Drives Sector Rotation; Geopolitical Risk Remains a Key Variable

The US-Iran ceasefire agreement is another key driver of second-quarter market moves. After the ceasefire took effect, oil prices fell sharply and the energy sector dropped more than 10% in the quarter. However, looking at the first half as a whole, driven by the late-February conflict between the US, Israel, and Iran disrupting shipping in the Strait of Hormuz and pushing oil prices up dramatically, the oil and gas sector still gained over 20% in the first half.

By the same logic, industrial metals rose on supply concerns, and the basic resources sector gained more than 16% in the first half. The travel sector plunged in the first quarter due to Middle East conflict, but rebounded nearly 20% in the second quarter as geopolitical tensions eased, marking the biggest quarterly gain since January 2023; it also led sectors in June with a gain of over 7%. The banking sector gained more than 20% in the second quarter, and rose more than 6% in June.

Notably, the blockade of the Strait of Hormuz continued to impact supplies of auto parts, suppressing the auto industry. The auto sector fell nearly 20% in the first half, making it the worst-performing European sector so far this year.

Profit Outlook and Rate Path Form the Core Battleground for the Second Half

Despite bright gains this quarter, there are still divergent views on the outlook for European stocks.

Kyle Rodda, Senior Financial Markets Analyst at Capital.com, said in a report that current market optimism is being driven by "positive signals on US-Iran negotiations and quarter-end trading activity," but he also cautioned: "Whether this price action is just noise or a signal will become clearer in the coming days and even weeks. It will depend on the balance between geopolitical risk, US rates uncertainty, and profit outlook."

The European Central Bank is holding its annual central bank forum this week, and policymakers have warned that the impact of oil price shocks will continue to ferment in the economy. According to LSEG data, traders currently expect European rates to be raised by another 25 basis points this year, and rate path uncertainty will be an important variable to watch in the second half.

On the stock level, France’s biopharmaceutical company Abivax surged more than 38% on Tuesday, marking its best single-day performance in a year, after announcing clinical trial results that eased investor concerns about cancer-related side effects of its core experimental drug obefazimod. Customer service company Teleperformance, however, fell 11.5%, dragged down by US peer Concentrix cutting its profit forecast.

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