The logo of Deutsche Bank is seen in Brussels, Belgium December 6, 2022. REUTERS/Yves Herman

(Reuters) -Deutsche Bank upgraded its stance on European equities to "overweight" on Monday, citing cheap valuations and a strong fiscal backdrop, and forecast the benchmark STOXX 600 index could hit 650 by the end of 2026.

The new target implies a potential upside of 15.2% for the benchmark index from Friday's close of 564.16 points. The European brokerage had previously maintained a "neutral" stance on European equities relative to their U.S. counterparts.

"Underlying shifts in valuations, debt levels, market concentration, and even risk profiles are paving the way for a potential resurgence in European equity appeal," Deutsche Bank analysts said, adding they anticipate earnings growth of 10–12% for the index next year.

Analysts also noted that as U.S. equity markets recover and valuations reach elevated levels, investors may increasingly turn to Rest of World (RoW) equities.

Europe could emerge as a compelling option given its historically modest valuations and expectations of increased fiscal spending from Germany, they added.

The U.S. stock market's bull run hit its three-year mark on Sunday, fueled by AI optimism and more recently by expectations of interest rate cuts. However, investor worries over high valuations and fears of a market bubble have been rising.

Although the brokerage does not foresee a downturn in U.S. equities, it highlights growing concentration risks, noting that the dominance of the top seven index constituents has altered the S&P 500's risk profile, leading to more pronounced draw-downs in U.S. markets compared to European equities in recent years.

"Regionally, we are positive on both regions but expect the 15 years of underperformance of European versus U.S. equities to have come to an end," they added.

(Reporting by Joel Jose in Bengaluru; Editing by Janane Venkatraman)