Wells Fargo believes investors should reduce their exposure to “overvalued” technology stocks.
The investment bank points to the narrow breadth of the current market rally, driven largely by a small number of big-cap tech and communication services companies.
According to its analysts, just a few tech giants are responsible for most of the S&P 500 Index's gains this year. Data from Bloomberg shows that the top five contributors to the index’s return accounted for nearly 58% of its gain through May 31, 2024.
“That means the remaining 498 companies (there are 503 companies currently in the SPX) contributed slightly more than 42% to the overall return,” Wells Fargo highlighted.
“The average return of the top five has been 40.8% while the rest of the index members averaged less than 5%. Clearly, the rally this year has been very narrow,” it added.
Wells Fargo also noted the disparity in performance between different market indices. For instance, the Russell 2000 Index of small-capitalization companies significantly underperformed the S&P 500 Index through May. Specifically, the small-cap index rose 2.1% during this period, compared to the S&P 500’s gains of 10.6%.
In addition, only 36 out of 124 sub-industry groups within the S&P 500 have outperformed the index year-to-date, further underlining the limited breadth of the market rally.
“The bottom line is, from a market-breadth standpoint, an analysis of the performance data through May shows a narrow array of stocks driving the SPX to new record highs,” the note states.
“As the economy slows, our preference is to trim the overvalued Tech and Communication Services sectors and replace with undervalued Industrials, Energy, Materials, and Health Care sectors.”