A sharp stock market decline could lie around the corner, Wells Fargo warns
Wells Fargo is skeptical the stock market can continue marching much higher from current levels. Strategist Ohsung Kwon trimmed his year-end S & P 500 target to 7,700 from 7,950. That implies just 1% upside from Monday’s close of 7,619.98. “[We] believe we’re entering late innings of the cycle, arguing for multiple compression,” Kwon wrote in a note Monday. “We see 5-10% downside risk” before the S & P 500 reaches his new target, he added. A 5% decline would take the benchmark index to 7,239, a level it hasn’t traded at since June. A 10% slide would knock the S & P 500 all the way back to 6,858, its lowest since mid-April. Kwon noted equity exposure among investors is too high, especially given the recent spike in bond yields. “We estimate equity allocation at 72%, the highest level since 1969,” he said. With the 10-year Treasury note yield hitting its highest level in 19 years, “we calculate the fair equity allocation should be ~60% (40% bonds), a 12ppt gap vs. actual. It’s also the widest gap since 1969, wider than the Tech Bubble.” “Equities remain complacent,” and the bank’s liquidity indicators recently hit their lowest levels of the year, the strategist added. Looking ahead, Kwon advised clients to favor healthcare and reduce exposure to technology. He downgraded the bank’s investment opinion on tech to equal weight, and upgraded healthcare to overweight as risks grow of a strong performance from Democrats in the November midterm election. “We see the midterms as a potential risk to Tech, especially as political pushback against data centers continues to gain momentum,” Kwon said. “On the other hand, we believe a potential Dem sweep would be seen as a positive for Health Care, potentially setting the stage for a restoration of the enhanced [Affordable Care Act] subsidies.” Wells Fargo isn’t the only Wall Street bank worried about a potential downturn. Bank of America on Monday noted that the S & P 500 has suffered only one 5% decline this year. “Pullbacks are normal,” Bank of America strategist Savita Subramanian wrote. “In our view [we] are overdue for a pullback.”
