After a significant rise in the European stock market, JP Morgan strategists recommend a shift towards "selective allocation": the financial and industrial sectors are the top choices.

As U.S. Treasury yields continue to rise, exerting pressure on the global AI-driven stock market rally, Madison Faller, a global investment strategist at JPMorgan, has issued her latest asset allocation signal: while the U.S. remains the "core of the portfolio," the European market is entering a new phase that requires "careful selection," with the financial and industrial sectors becoming the most attractive value opportunities in her view. Faller's latest remarks reveal a key shift occurring in the European market: the profit growth of European firms is catching up to that of the U.S., yet the market has not fully priced in the structural opportunities behind this trend. Against the backdrop of the European second quarter earnings season delivering the strongest results in three years, the divergence between sectors is creating new investment windows. European Earnings "Catch Up to the U.S.": Strongest Earnings Season in Three Years Reshapes Market Narrative European companies have just concluded a milestone earnings season. According to LSEG I/B/E/S data, the earnings of STOXX 600 index constituents in the second quarter are expected to increase by 22.4% year-on-year, marking the strongest growth since the third quarter of 2022. Data shows that the MSCI Europe index profit grew by 14%, with more than half of its constituents reporting earnings exceeding expectationsboth indicators representing the highest levels since early 2023. This round of earnings rebound presents clear structural characteristics: the energy sector leads with a growth rate of 135.8%, while basic materials (including chemicals, steel, and mining) grow by 57.6%. However, more importantly, the spread of growth dynamicsfrom raw materials and industrials to technologyhas led to rapid growth across the entire AI and infrastructure industry chain, with the financial sector also playing an additional supportive role. The trend of earnings revisions is also sending positive signals. JPMorgan's strategist team points out that in recent weeks, earnings per share revisions in the Eurozone have consistently risen, fully turning positive, and the gap with U.S. profit growth is narrowing, approaching complete convergence for the first time since early 2025. Citigroup data indicates that European earnings expectations for the second quarter have been revised up from 11% to 15%, with third-quarter growth expectations reaching 18%. From "Broad Allocation" to "Selective Picking": Faller's New Investment Framework for Europe In this context, Faller has proposed a clear investment framework for Europe. She stated, "Over the past several quarters, we have indeed seen an improvement in European equity earnings. I believe valuations have caught up with this trend, so the key is where to focus your investments in Europe." Faller's core strategic logic encompasses several layers: The U.S. remains the "ballast"; given the U.S. economy's innovative potential, economic resilience, and high corporate profit margins, the U.S. "is still the core of the portfolio." Europe shifts to "selective allocation"; "for Europe, we will adopt a more selective investment strategy in industries we are optimistic about." Financials and industrials are priority options. Faller expresses a clear bullish outlook for the financial and industrial sectors, believing these sectors will benefit from a more favorable economic environment. She also specifically mentions companies with irreplaceable physical assets that are less impacted by artificial intelligence. In grasping AI investment opportunities, Faller emphasizes a "full industry chain" perspective. She notes that investors should not only focus on technology giants but should look at the entire AI industry chainThe story of AI is not confined to a single industry; what we are really focused on are those capital-intensive and irreplaceable assets, she particularly mentions sectors such as semiconductors, infrastructure, utilities, and industrials. The "Catalysts" for Financials and Industrials: Fundamental Improvement and AI Infrastructure Dividend Fallers optimism for the financial and industrial sectors is based on solid fundamental improvements. The European banking sector is experiencing a resonance of multiple positive factors. Faller points out that given the improvement in the fundamentals of the European banking sector, along with ongoing increases in dividends and stock buybacks, bank stocks in this region deserve attention. JPMorgan's strategy team further highlights that the banking industry is expected to be one of the key contributors to second-quarter profits, likely delivering performance above expectations. The productivity enhancements brought by AI are helping to control costs, and loan loss provisions booked in the first quarter are unlikely to be repeatedas shocks like the closure of Market Financial Solutions are more reflective of isolated incidents rather than systemic risks. The European banking sector is expected to benefit from a full three months of high-interest rate conditions in the second quarter, maintaining net interest margins at favorable levels. Stock buybacks and dividend growth provide additional support for valuations. The industrial sector is positioned on the structural opening of AI infrastructure construction. Faller clearly mentions that those "capital-intensive and irreplaceable assets" within the AI industry chain are her focus. From manufacturers of gas turbines essential for data center construction (such as Siemens Energy) to electric equipment suppliers (like Schneider Electric), the expansion of the entire AI infrastructure industry chain is creating persistent incremental demand for the European industrial sector. In terms of sector performance, the STOXX 600 industrial sector achieved a 16% EPS growth and a 9% sales growth in the second quarter. FactSet data shows that the industrial, energy, and materials sectors reacted most strongly positively to performance exceeding expectations. Market Sentiment and Risk Warnings A recent survey by Bank of America shows that a net 53% of fund managers expect the European stock market to rise in the next one to three months, reflecting widespread confidence in the recovery of European profits. However, risks cannot be overlooked. On August 18, the U.S. 30-year Treasury yield surged to 5.326%, the highest level since 2007, causing significant volatility in Asian technology stocks. If U.S. Treasury yields continue to rise, they could pose systemic pressure on the valuation of global risk assets. Additionally, the concentrated upward adjustments of earnings expectations by analysts have raised the performance threshold in Europethe current valuation has climbed to a forward P/E ratio of about 15 times, exceeding the 20-year average of 13 times. Conclusion JPMorgan strategist Faller's latest statement provides a clear framework for European asset allocation: the U.S. remains the core, while Europe requires careful selection, with financials and industrials being the most attractive sectors at present. Against the backdrop of European companies delivering the strongest earnings results in three years and a continued improvement in earnings revision trends, this strategy logic is being validated by the market. Goldman Sachs data shows that, except for basic resources and consumer discretionary sectors, earnings forecasts for other industries have been raised in July, with the most significant revisions seen in technology and energy sectors. As Faller noted, the story of AI does not belong solely to a single industrythose sectors with irreplaceable physical assets, capital-intensive characteristics, and benefiting from the expansion of AI infrastructure are becoming the core battleground for the next phase of the European market.