Will higher oil and rates derail Europe’s rally?

European equities have seen their earlier outperformance stall against the United States after a roughly 10% gain year-to-date. According to Barclays strategists led by Emmanuel Cau, renewed pressure from climbing energy prices, elevated interest rates, and political uncertainty in France and Germany has weighed on regional market momentum, while a rebound in U.S. megacap technology shares has rebalanced investor appetite. Despite the immediate headwind from higher energy prices driven by Middle East tensions and depleted gas storage, Barclays economists argue that Europe's underlying growth backdrop remains resilient. The bank anticipates the European Central Bank will hike interest rates by 25 basis points to 2.50% at its upcoming meeting, reflecting robust nominal GDP growth expected to persist into 2027, propelled by strategic defense, infrastructure, and German capex investment. From an asset allocation standpoint, Barclays maintains a neutral stance between European and U.S. equities. The bank continues to favor Germany over France due to stronger fiscal positioning and undemanding valuations, while overweighting capex beneficiaries and financial institutions over consumer-discretionary sectors.