The S&P 500 (^GSPC +1.20%) has fallen 2% year to date as tariffs imposed by the Trump administration have led to economic uncertainty and even recession fears in the U.S. However, apart from duties on steel and aluminum imports, Europe has so far been excluded from the burgeoning trade war.
That is one reason the major stock market indexes in Germany, France, and the United Kingdom are beating the U.S. benchmark this year. It also explains why the Vanguard FTSE Europe ETF (VGK +1.55%) has been the best-performing Vanguard index fund of 2025. Its year-to-date return stands at 13.4% as of March 24, putting it 15 percentage points ahead of the S&P 500.
However, investors should be cautious chasing European stocks after their recent outperformance. Here are the important details.
Why the Vanguard FTSE Europe ETF has performed well in 2025
The Vanguard FTSE Europe ETF measures the performance of more than 1,200 European companies. The index fund is heavily weighted toward stocks in the United Kingdom (24%), France (16%), and Germany (14%), the three largest economies in Europe.
Here are the 10 largest holdings in the Vanguard FTSE Europe ETF, listed by weight:
- SAP: 2.3%
- Novo Nordisk: 2.1%
- ASML Holding: 2.1%
- Nestlé: 1.9%
- Roche Holding: 1.7%
- AstraZeneca: 1.7%
- Novartis: 1.6%
- HSBC Holdings: 1.6%
- Shell: 1.4%
- LVMH Moët Hennessy Louis Vuitton: 1.3%
European stocks have done well year to date for several reasons. Analysts generally expect sales and earnings growth to accelerate across the benchmark STOXX Europe 600 during 2025 and 2026. Also, the European Union plans to spend much more on defense in the next two years, and the European Central Bank has lowered its benchmark interest rate by 185 basis points since last June.
Consequently, European gross domestic product (GDP) growth is projected to accelerate through 2027. Add to that relatively cheap valuations compared to the U.S. stock market, and the result has been outperformance in European equities in 2025. However, with the benchmark STOXX Europe 600 up nearly 13% year to date (as measured in U.S. dollars), the good news may be priced in already.
Why European stocks may not perform as well in the remaining months of 2025
The Trump administration in February announced a 25% tariff on goods imported from the European Union. That duty has not yet taken effect, nor has the White House provided a specific timeline for implementation, but European stocks would almost certainly suffer if the region became involved in the ongoing trade war.
As a result, the European Central Bank recently cut its GDP growth forecast by two-tenths of a percentage point for 2025 and 2026. Economic expansion in those years is still expected to accelerate, but to a lesser degree than initially anticipated. Additionally, analysts have downwardly revised earnings estimates for 2025 since the beginning of the year. In fact, earnings are now expected to decline in the first quarter.
In short, the tailwinds that have supported outperformance in European stocks in 2025 are beginning to fade. Meanwhile, U.S. stocks have become increasingly attractive as they have declined. Not surprisingly, Mike Wilson, chief equity strategist at Morgan Stanley, recently told Bloomberg he would pick the S&P 500 over the European stock market in the coming months.
Portfolio diversification is important, and the Vanguard FTSE Europe ETF is currently the best-performing Vanguard index fund of 2025. But investors should be careful chasing European stocks after their strong returns year to date. Personally, I would rather buy an S&P 500 index fund in the current market environment.
