Investing.com -- The equity bull market is "arguably running on tighter margins" as the end of the global easing cycle removes a key tailwind, Barclays strategists argue, even as they see a narrow path higher for European stocks into year-end.

Strategists led by Emmanuel Cau said growth remains strong, with nominal growth comfortably above nominal yields, loose fiscal policy and a capital spending cycle tied to AI, infrastructure and strategic autonomy. But with "no more free lunch," the restart in tightening should bring lower future equity returns and softer growth down the road, the strategists wrote. A higher cost of capital should also keep debt-fueled AI spending in check and increase dispersion.

Higher bond yields are also challenging the argument that there is no alternative to equities, Barclays’ team said. Rates are now at a level where buying stocks "is no longer a no-brainer" and cash is more attractive, as equity risk premiums continue to decline, the strategists said.

Earnings must do the heavy lifting, though so far the investment cycle has kept earnings momentum on track. Barclays expects 16% earnings growth in Europe this year and 10% in 2027.

The strategists said their caution going into September proved wise, as surging rates and oil prices spoiled the summer rally and fiscal concerns resurfaced, with France at the center. They now see a narrow path higher, since positioning is cleaner and fourth-quarter seasonality is typically supportive.

Markets have already adjusted to higher rates, oil and fiscal constraints through lower multiples and weaker breadth. Markets now price three to four rate hikes from major central banks over the next year, and crude flows have improved, helping cap Brent prices, though a decisive U.S.-Iran de-escalation remains elusive. French fiscal risk is "manageable," and the situation differs from 2011, strategists said.

They believe that third-quarter earnings should reassure investors, with growth moderating from second-quarter highs but still at a double-digit pace. Price-to-earnings (P/E) multiples have fallen to long-term averages, improving the risk-reward ahead of the numbers. Strategists said AI euphoria has calmed, but growth remains intact.

Barclays stays market-weight on Europe versus the U.S., preferring peripheral Europe and Germany over France, with Japan its key regional overweight. It favors capex beneficiaries and banks, has added selectively to lower-beta telecoms, and stays cautious on consumer, real estate and materials stocks, which are sensitive to rates and energy prices.

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