By Brian Swint

Germany's DAX index of blue-chip stocks has gained six times as much as the S&P 500 this year. The election results from this weekend will propel it even higher.

The key question going into the vote was whether the conservative CDU party leader, Friedrich Merz, would be able to form a new government with just one coalition partner, or if more would be needed to get a majority in the Bundestag. Even though negotiations may take months, it looks like we have an answer--the CDU will team up with the center-left SPD and have enough for a simple majority, which should make it easier to push through much-needed changes.

"This configuration will have one major economic advantage: it will streamline economic policymaking by avoiding much of the constant infighting which bedeviled" the last coalition led by the SPD, said Cedric Gemehl of Gavekal Research. "This prospect alone may be enough in itself to release a measure of pent-up demand resulting from past policy uncertainty."

Merz has said he wants more business-friendly policies for taxes and regulation. More importantly, it should be relatively easier to expand government spending to invest more in roads, railways, and defense--the latter being especially critical after Russia invaded Ukraine.

On top of that, the European Central Bank is on track to continue cutting interest rates this year, which should further help the DAX. Companies on the exchange--which include software company SAP, engineering giant Siemens, pharmaceutical firm Merck, and car makers Volkswagen, Mercedes-Benz, and BMW--have been doing well in large part because they make most of their sales overseas. But while they may not rely on the domestic economy for their profits, an improvement in prospects at home will still help.

"A new chapter is opening for Europe, with fiscal expansion for Germany and easier monetary policies from the ECB," said analysts at Société Générale led by Manish Kabra.

The DAX was up 0.6% in Frankfurt. It has gained 13% this year, compared with a 2.2% increase for the S&P.

One of Merz's biggest challenges will be reforming Germany's debt brake, a constitutional amendment that limits deficit spending and is currently standing in the way of unleashing new funds for investment. Changing the constitution requires a bigger majority than the CDU and SPD will command together, but they may still be able to negotiate a workaround to open the taps of government spending.

Defense seems like the most immediate sector to benefit. Rheinmetall, which makes weapons and vehicles, was up 3.9% on Monday, bringing its gains for the year to 51%.

Write to Brian Swint at brian.swint@barrons.com

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February 24, 2025 08:40 ET (13:40 GMT)

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