European banking stocks’ biggest rally in 16 years is faltering as the region’s hottest sector confronts the prospect of higher taxes and a surge in sovereign risk.
The Stoxx 600 Banks Index sank 4.5% last week — the most since April — as investors grappled with an onslaught of negative headlines covering a no-confidence vote in France, renewed calls for a windfall tax in the UK and the possibility of additional levies in Italy.
Commerzbank AG, Sydbank AS, NatWest Group Plc and Societe Generale SA bore the brunt of the selloff on questions around whether lenders would continue to enjoy a robust earnings outlook. Worries about global growth are also raising doubts about the trajectory of a sector that’s closely linked to the economic cycle.
“Anything that compromises the profitability outlook for banks reduces their attractiveness, but what’s key is how they react to offset these windfall taxes,” said Daniel Murray, chief executive officer of EFG Asset Management Switzerland. “For now, the underlying demand for credit still looks reasonable and interest margins look fine.”
The pullback is testing what has so far been the strongest year for European lenders since 2009. The banks subindex has jumped 41% in 2025, easily the best performance among regional sectors, driven higher by upbeat earnings and solid investor returns.
Constituents of the MSCI Europe financials index blew past analysts’ profit estimates in the second quarter. They delivered a 15% jump in earnings per share against expectations of a 2% increase, according to data compiled by Bloomberg Intelligence. And yet, the price tag on the sector is the lowest of all regional industry sub-indexes.
Valuations fell further last week, partly as UK Chancellor of the Exchequer Rachel Reeves faced renewed calls from a think tank to raise billions of pounds of much-needed revenue by imposing a windfall tax on banks.
France is also in the thick of political turmoil after Prime Minister Francois Bayrou announced a confidence vote. Lenders are not only a typical proxy for political instability, they’re also exposed to both the value of French government bonds and the premium investors demand to hold them.
Some market participants including at Citigroup Inc. and Goldman Sachs Group Inc. remain confident that French banks, which have the third-biggest weighting in the CAC 40 Index, will be able to weather the heightened sovereign risk.
“Their capital positions are extremely strong and we didn’t move the needle in terms of our expectations for economic growth,” said Sharon Bell, a strategist at Goldman Sachs. “Their vulnerabilities are perhaps lower than they have been in the past.”
Optimists also argue that while European lenders are tracking a third straight year of gains, the rally is far from overheating. The banks index remains about 45% below its peak in 2007, before the global financial crisis.
For strategists at Bank of America Corp., a potential deterioration in the global economic outlook is a cause for concern. They expect bond yields to decline and risk premia to widen if growth falters, an environment “in which financials have historically tended to struggle,” strategist Sebastian Raedler wrote in a note.
For now, though, data show upbeat business activity in both the US and Europe, suggesting the rally in banks can go on in the absence of an exogenous shock.
“Banks remain among our most favored sectors,” said Maximilian Uleer, a strategist at Deutsche Bank AG. “Apart from short-term pullbacks, for example due to French politics, we see no reason why the fundamentally strong picture for banks should change.”
With assistance from Macarena Muñoz and Farah Elbahrawy.
This article was generated from an automated news agency feed without modifications to text.
