During President Trump’s second term, concerns have mounted that his tariff hikes, strains on Western alliances, and interference with Federal Reserve independence could erode the US safe-haven status. Last year, the US stock market lagged global peers for the first time in years, while European equities surged—the STOXX 50 rose 19% in euros and 35% in dollars—fueled by cheap valuations and expectations of higher NATO defense spending.
Heading into this year, European stocks were expected to keep momentum on improved Eurozone GDP forecasts. But since the Iran conflict began, European equities have stalled, while US stocks hit record highs. Some analysts question this divergence given the unpopular Iran war and rising US inflation.
Foreign investment patterns explain part of the story. As of mid-2025, Treasury data show foreigners held nearly $20 trillion in US stocks—about 20% of the total market—and $15.5 trillion in US bonds, roughly 30% of outstanding debt. The shift toward equities reflects decades of stock appreciation, while bonds are held for liquidity, yield, and safety.
US stocks have outperformed recently because the economy is well-diversified and a net energy exporter, unlike the EU, which imported 57% of its energy in 2024. US technological dominance and a capital spending boom tied to AI infrastructure, alongside strong corporate profits, have also helped. Europe’s growth has lagged throughout the decade, with Germany—once the region’s locomotive—trailing EU growth by an average of 1.8% annually. Five leading German institutes recently cut their 2026 growth forecast to 0.5% from 0.9%, citing the Iran war.
Politically, Europe faces an anti-incumbency wave. Morning Consult data show disapproval ratings of 75% for French President Macron and German Chancellor Merz, while the UK Labour Party suffered a crushing defeat in local elections. Investors see weak leadership in Europe.
So what might push global investors away from dollar assets? Two of the largest Treasury holders—Japan and China—have been steadily reducing their positions. Japan sells Treasurys to bolster the yen, while China pivots to gold to enhance the yuan’s international role. During the Iran conflict, bondholders initially looked past rising inflation, assuming oil price spikes would be temporary. But confidence is fading: the 30-year Treasury yield has hit 5%, the highest since 2007.
The federal budget deficit is likely to exceed 6% of GDP indefinitely, and publicly held debt is approaching 100% of GDP. Yet Trump has requested a $500 billion increase in defense spending for fiscal 2027, to $1.5 trillion. New Fed Chair Kevin Warsh faces the challenge of fighting inflation without angering Trump, reminiscent of Alan Greenspan’s 1987 discount rate hike after replacing Paul Volcker. Markets are patient for now, but the clock is ticking for the Fed to show progress on its 2% inflation target. The premium investors demand to hold dollar debt could rise further.
