Investing.com -- The outlook for European banks remains strong, with analysts at Goldman Sachs reaffirming their "Better for Longer" thesis.

The sector has outperformed broader European equities, buoyed by improving economic conditions, stable policy rates, and strong capital distribution policies.

Despite a re-rating in valuations, banks remain attractively priced compared to historical levels and global peers, suggesting further room for growth.

Goldman Sachs points to a confluence of factors driving the sector’s strength. Higher interest rates in early 2025 have helped stabilize net interest income (NII), reducing the risks associated with prolonged rate cuts.

The brokerage also notes growing confidence in the European macroeconomic outlook, supported by fiscal expansion, particularly in Germany.

This, combined with the possibility of a resolution to the Ukraine conflict, has bolstered sentiment toward European financial institutions.

Earnings across the sector have exceeded expectations. Banks under Goldman Sachs’ coverage delivered an average return on tangible equity above 13% in 2024, with further gains projected through 2027.

Earnings per share estimates for 2025 and 2026 have been revised upwards, driven by better-than-expected revenue momentum and lower-than-anticipated credit costs.

Several banks stand out as particularly well-positioned. Goldman Sachs has upgraded ING to "buy," citing an anticipated recovery in NII, favorable deposit trends, and a strong presence in markets benefiting from fiscal expansion.

UniCredit has been reinstated with a "buy" rating, attributed to its robust fee income and disciplined cost control, while Commerzbank (ETR: CBKG ) has been rated "neutral," as its solid earnings outlook is seen as largely priced in by the market.

UBS remains a "buy," though analysts have adjusted earnings forecasts in light of potential changes to Swiss capital requirements.

Despite year-to-date gains, European banks continue to trade at a discount to broader European equities and US banks.

The SX7P index, representing major European banks, is valued at 8.6 times forward earnings, a 40% discount to European equities and 20% lower than US banks.

This discount stands in contrast to the sector’s improving fundamentals, prompting Goldman Sachs to suggest that further re-rating remains possible, albeit at a slower pace than earlier in the year.

The sector’s outlook hinges on key macroeconomic factors, including the European Central Bank’s policy trajectory, geopolitical developments, and fiscal policy shifts.

Analysts believe that European banks are well-positioned to sustain strong returns on equity and continue rewarding shareholders through dividends and buybacks, with payout ratios averaging above 80% through 2026.