Wells Fargo, led by strategist Ohsung Kwon, has adopted a cautious stance on the U.S. stock market, lowering its year-end S&P 500 target to 7,700 from 7,950. This revised target suggests only 1% upside from the recent close of 7,619.98. Kwon believes the market is entering the "late innings of the cycle," leading to potential multiple compression and a downside risk of 5-10%. A 5% decline would bring the S&P 500 to 7,239, while a 10% slide would take it to 6,858, a level not seen since mid-April.
A primary concern for Wells Fargo is the elevated level of equity exposure among investors, estimated at 72%, the highest since 1969. With the 10-year Treasury note yield at a 19-year high, Kwon calculates that the fair equity allocation should be around 60%, indicating a 12 percentage point gap, the widest since 1969. This suggests that equities are complacent, and the bank's liquidity indicators are at their lowest for the year. Bank of America also noted an overdue market pullback, given only one 5% decline this year.
Kwon advised clients to favor healthcare and reduce exposure to technology, downgrading the tech sector to equal weight and upgrading healthcare to overweight. He highlighted political pushback against data centers and the potential for a Democratic sweep in midterm elections as risks to tech. Conversely, a Democratic win could be positive for healthcare due to possible restoration of enhanced Affordable Care Act subsidies. Wells Fargo's caution extends to the sustainability of the AI boom, with questions arising about capital outlays, potential overbuilding, and data center moratoriums as elections approach. Kwon anticipates the AI capital expenditure cycle could enter its late stage by 2027 unless economic growth accelerates to warrant further investment, with growth expected to peak next quarter. He views Anthropic PBC's upcoming S-1 filing as an important near-term catalyst and expects AI to produce $1.4 trillion in gross output by 2028 and $2.2 trillion by 2029 to validate current buildout plans.
