Why Trump's tariffs mean US equities will underperform, traders eye Europe

Not many investors had the Fourth Reich on their bingo cards for 2025, but Germany's plans to rearm and the European Union's call to invest €800 billion in defence has made the continent the hottest trade among institutions this year. 

March even saw the biggest drop in US equity allocation on record among fund managers in a Bank of America survey, as professionals sold Wall Street's winners and piled into European defense stocks. 

The result of the upheaval has pushed Germany's DAX Index 11.3% higher in 2025 to outpace the 8.1% fall for the Nasdaq 100 Index by around 19%, but is slow-to-no-growth Europe more a quick trade than winning trend over the years ahead for investors? 

Expert views

Stephen Miller a market strategist at GFSM Funds Management argues the uncertainty around President Trump's policies is hammering companies' willingness to invest and translating into poor US equity performance. 

"I think this period of relative US share market outperformance is almost certainly at an end for any reasonable investment horizon," Miller says. "So, yes I'd look to continue the rotation out of US equities into other developed markets.

 "Business investment goes hand-in-hand with equity market performance particularly with the Magnificent 7 and what we're seeing under Trump is peak uncertainty. And the tariffs are damaging to the US economy they elevate inflation and keep bond yields otherwise higher than they would be."

Miller believes the "party's over" for US growth investors and added that European share markets are unlikely to take up the slack for growth investors given the trade war risks and Europe's regulatory burdens.

"So what do I want to rotate into? Well I find it eyebrow raising the EU thumps the table on protectionism, it's been a protectionist club for decades and that's why it's languished. If their response is to retaliate with the Canadians, it's circular firing squad stuff. I don't think Europe's growth prospects will give you much joy."

Alternatives to global equity risk, gold

One solution for investors looking to protect themselves from equities' downside is to look at alternative and uncorrelated asset classes, according to Miller. 

"There's bonds, but they've got warts too," he says. "As tariffs lead to higher inflation and you've already got the US fiscal deficits with more deficit spending in Europe. So bonds and equities might still be the foundation for your portfolio, but for my own SMSF I've been buying gold.

"I'm not a Johnnie come lately, I started buying say 2017 as a substitute for bonds not equities. Bonds won't help as much as they used to because of sticky inflation, but I'm not saying they won't help."

On Tuesday, gold prices extended a three-month surge since President Trump took office to reach a record US$3124 an ounce and Miller says another alternative to equities is asset classes that can rise in value as shares fall. 

These could include hedge funds that bet heavily on short positions, long-short bond funds, or liquid alternative investments.

European rates forecast to fall

For investors in European risk assets one potential tailwind over other developed markets is lower benchmark borrowing rates in 2025. 

Currently, investment bank Citi forecasts the European Central Bank's interest rates to fall to 1.5% in the fourth quarter of 2025, versus its forecasts for rates to drop to 3.25% in the US and 3.6% in Australia.  

Elsewhere, the rush of capital into European defense stocks has already pushed Frankfurt-listed German arms manufacturer Rheinmetall (ETR: RHM) 118% higher in 2025, with British arms and engineering group BAE Systems jumping 35% and French defence group Thales soaring 79%.

For local small-cap enthusiasts it could be worth taking a look at AML 3D Ltd (ASX: AL3). It's in the 3D printing space and sells systems in support of the US Navy. AML 3D also recently raised $32 million to mean it has a healthy balance sheet to deliver on its growth plans. 

Elsewhere, the likes of Droneshield (ASX: DRO) and US naval shipbuilder Austal (ASX: ASB) have both jumped more than 20% in 2025.