European banks have delivered exceptional returns over the past five years, with the index climbing 68% in 2025, significantly outperforming the broader SXXP index. Barclays maintains an overweight position on the sector, acknowledging the remarkable run. Despite the rally, the brokerage argues that European banks remain attractively valued, trading at a 15% price-to-earnings discount to their long-term average.

The sector's capital position remains robust, with a CET1 ratio of 16.3% as of third quarter 2025. Banks delivered approximately 7% total yield over the past year, ranking second only to energy. Barclays forecasts a cumulative total yield of 23% over 2025-27, suggesting continued upside potential. However, the brokerage identifies significant risks, particularly macro-dependence and political uncertainty, especially in France and the UK.

Barclays forecasts EPS growth of 9% in 2026 and 13% in 2027, following 4% growth in 2025. The IBES consensus expectation of 11% EPS growth for 2026 is below historical averages. The brokerage suggests renting upside via options while limiting the cost of being wrong, recommending call spreads to capture potential gains while managing downside risk. Barclays' top stock picks include several European banks, all rated overweight.

Despite the strong performance, Barclays believes there is still room for growth in the EU banking sector. The sector's profitability and regulatory framework suggest that higher returns can be achieved with lower risks. Investors should consider the potential for further gains, but also be mindful of the risks associated with macroeconomic and political factors.